Wednesday, June 09, 2010

How To Afford Your First Job, Professor Bumstead: Radical Advice For The Newly Employed

We can all agree it was a terrible job market last year. And yet, some of you will be proceeding, newly hooded, into more highly paid employment than you had last year. When I was in graduate school, we used to distinguish between "a job" (something that pays better than graduate school, which could be anything from a one-year adjunct to an administrative, IT or public history position) and "a real job" (employment that offered a longer future, most likely tenure-track.) Nowadays there is also a third category that has expanded dramatically: the post-doctoral fellowship.

Regardless of what category you fall into, if you have finished your PhD and proceeded to paid employment of any kind, you may be making two to three times the money you made last year, which will make you feel giddy. For this reason, my dear, you are in need of Radical Financial Advice.

1. Find out when you will receive your first pay check, how much it will be, and how many months a year you will be paid. It is not uncommon that there is an uncomfortable to yawning gap between the end of your graduate fellowship or post-doc and the beginning of your new salary. If you have been living paycheck to paycheck (which you have) and don't have a partner who is earning, you may suddenly find yourself anywhere from two to four months without income. Most college fiscal years begin in July, but most adjunct jobs and post docs, as well as some tenure-track jobs, begin paying only after you have actually hit the ground in September. This means you might be paid at the end of July and you might be paid at the end of September. You may be paid on a twelve month schedule, or an 8-9 month schedule. Find out and plan accordingly. Sometimes it is possible (especially with a push from a kindly chair or dean) to get your new Human Resources people to re-calibrate your salary to a cycle that eases your transition slightly better. Otherwise, you need to make a plan for whatever time you will be without income. Like crawl home, live with your parents and wait tables until your prestigious university job begins.

2. You cannot afford not to have an accountant. Used to filling out the short form? Well you may be able to go back to it year after next if you are in a tenure-track job, but not this year. Why? Because poor as you may still feel once you figure out what you will actually be living on once you begin debt repayment (see below), you have leaped up the tax ladder. Listen carefully, because this is important: you will probably owe more in taxes next April than will be withheld from your salary. Why? Because withholding on your graduate fellowship, post-doc or adjunct salary was done at a far lower tax rate. So while the amount withheld from your new salary will be appropriate, the amount withheld from your servant wages will not have been, and you will owe money.

An accountant can help you plan for this by either telling you how much to have withheld in your new job, or by calculating how much you have to save to pay the Feds in the spring. The former strategy is preferred, since under-withholding is frowned upon by the IRS, but you can probably get away with it for a year.

I'll tell you right now: H & R Block doesn't count as an accountant. Go to a senior colleague who looks relatively prosperous and ask her who her accountant is. You need someone good because, before taking on the financial obligations of moving, you also need to be able to plan.......

3. Your budget. That's right, it's Blondie and Dagwood time. And this is perhaps the most important part of this post, because the first thing you will need to get a handle on is....

4. Your debts. It's no shame to have them: nearly everyone carries debt from college and adds to it in graduate school. But there is good debt and bad debt. Let me explain.

Good debt includes your massive student loans, that will kick in six months after the hood falls on your shoulders. Once you have learned from your accountant how much your monthly salary will be, you then need to lop these payments right off the top. My advice is to create a separate bank account for debt payment and have that part of your income immediately deposited in it; then have the same account make an electronic payment on a day or two later. This way you will never get your mitts on the money, and you will never miss it.

Good debt is buying a house. But, should you be in a position to do so, one conversation to have with your accountant is whether, in your income bracket, and given the volatility of the real estate market, this is a good time in your life (and the right location) for you to make that investment. Take it from one who is on her third home: buying a house is far more expensive than your cheerful real estate agent will tell you. Take the numbers s/he gives you for the first year and add $10,000. What you might find in this soft market is a rent-to-own situation, which might be attractive if you are tenure-track. In this scenario, you have the option of owning a year or so down the line, with a portion of your rent applied to the purchase price. In this case, you will need to discuss with your accountant how much you would need to save to complete the sale (there are transfer taxes, mortgage fees, and other hidden costs to house buying that are tax deductible, but must be paid up front.)

Another good debt is purchasing a car if you do not already have one and you will need one to get to school. Unlike student loan and credit card payment, paying back a car loan establishes your credit worthiness. In addition, even though you will have to come up with $1000 -$2,000 to put down on a car, it is also a particularly good economic environment for purchasing a car: I am still getting ads for 0% financing, and by July and August when they are trying to get the old model year off the lot, you might even see no money down offers.

But if you are living in a college town where you can easily bike or walk to work, consider not purchasing a car immediately. Aside from the down payment, this will probably save you around $2500 alone next year in insurance, gasoline, maintenance and taxes (if you live in a state that taxes autos.) Renting a car when you need one is much thriftier, as is offering to pay for a friend's gas so that you can both go to Sam's Club and Trader Joe's to load up on household items and frozen food in bulk.

Bad debt is credit cards. My guess is that you have what -- two? Three? My other guess is that you have been closing the gap between your actual income in graduate school and what you spend with your credit cards and that you are paying a lot of interest. Maybe you have even been accepting those offers that allow you to transfer debt from one card to another at 0% for the first six months? You did that more than once? You are paying interest on the accumulated interest, aren't you? Now listen very carefully:

You must stop. Now. Right now.

Until you stop living on credit you are not working for yourself, you are working for the bank. Credit cards are like crack. They sing us siren songs, and we love what they say because we can cure so much unhappiness today and pay for it tomorrow (and the next day, and the next day, and the next day....) Credit cards are like affairs: we tell ourselves and our friends there is nothing wrong with them, and yet we feel compelled to lie about them too. Tell your accountant exactly what you owe, and tell the truth. Believe me, s/he has heard it all -- and so much worse -- before. Then try this: when you are shopping around for a bank, find out whether you can get a fixed-rate consolidation loan to pay all your credit cards off over a period of 36 months. Compare the rates on these loans, and choose the bank that gives you the best one. Make sure there are no penalties for early payment, and then consider teaching a summer course next year to make a serious dent in that loan. In the end this will save you thousands of dollars.

Most important, until you know all the above numbers -- taxes, debt repayment, and net-net monthly salary, you will not know how much....

5. Money you and your dependents have to live on. I am going to tell you right now that even though you just got a big raise, at this point in your financial planning process this will seem like a heartbreakingly small number, particularly if you are financial obligated to parents, spouses, children or siblings. It may be a small enough number that, particularly if you are moving to a big city, you may have to seriously consider a roommate situation. But cheer up: you are not going further into debt, you have cancelled all but one credit card, you are going to pay for everything in cash from here on out and (this is the best part, after you have dealt with all your financial baggage), barring complete unemployment, your real income is most likely to go up from here on out! Budget for food, utilities (can you really afford the cable package you want?), rent (is heat included? Not an important question in Los Angeles, but vital in Boston), transportation, and clothes. And do yourself one more favor.....

6. Save something. Anything. This will make you feel powerful and in control of your fate. Make it $25 a month if that is all you have, but put it somewhere that you cannot touch it. I, for example, have a Roth IRA, where I have for years put all the money I have ever earned writing and speaking, and it has become a nice sum over two decades of employment. Look at it this way: a $250 honorarium for giving a talk locally isn't much money, but with compound interest over the course of your working life, it becomes an impressive sum on which you have also deferred taxes. If you are a highly self-disciplined person, you might want to save up your money for a bit and then put it in a CD, where it is slightly more available to you but you have to make a conscious decision to actually use it rather than fritter it away.

This advice may be more appropriate to some people than to others, but the important message is plan. Plan now. You don't have to be Suze Orman to know that one of the worst legacies of a prolonged period of debt accumulation and low income is learning to ignore the real state of your finances as you fear deprivation more than you fear living beyond your means. While this can be OK during graduate school, when your first priority is establishing yourself as an intellectual and accumulating debt can allow you to complete your studies in a timely manner, to prolong debt accumulation into your salaried life can limit your options severely down the line.

On the other hand, at a moment when you are launching yourself into life as a professional intellectual and so many things are out of your control, this is one place -- with a little prudence and self-discipline -- where you can feel powerful and in charge.

19 comments:

Dr. Virago said...

This is all sound advice. Though I do think that paying off credit card and student loan debt does help your credit rating. I didn't have a car loan until recently and my credit score *rocked* before and after.

And I was one of those folks who moved in with my parents for 2 months between my low-paying lectureship gig and my tenure-track gig. At age 34, no less. But my parents were/are aged and it seemed like good quality time to have with them and the opportunity to help around the house. My mom died 3 years later, so I'm glad to have had that time.

Tenured Radical said...

What I was told (now almost twenty years ago) when I first applied for a car loan was the *not* paying SL and CC debt hurts you -- but paying it doesn't actually establish good credit. That may have changed.

That said -- debt you are already carrying affects what debts you are allowed to assume, at least with responsible lenders (and one hopes those regulations are being put back in place.) Should you wish to buy a house, the mortgage you can be approved for is lowered to account for money already owed. So another reason (other than freedom) to pay off (and not take on) bad debt is that it limits your capacity to acquire good debt.

Shane in Utah said...

Because withholding on your graduate fellowship, post-doc or adjunct salary was done at a far lower tax rate. So while the amount withheld from your new salary will be appropriate, the amount withheld from your servant wages will not have been, and you will owe money.

Sorry, this doesn't compute. When your tax rate increases, that increase only applies to the amount beyond the threshold. So everybody pays the same tax rate on, say, their first $20,000 of income. But every dollar you earn over $20,000 is taxed at the higher rate; every dollar over $30,000 at a higher rate still; and so on. So whatever percentage was being withheld on the lower income before should still be sufficient to cover that income, barring changes in the tax code... (The notion that an increase in the tax rate affects the entire income is a very common and pernicious misperception perpetuated by our media in every discussion of tax rates they ever publish.)

John said...

I bought a car last summer after getting a job and although my credit score is, and has always been, excellent, regular banks wouldn't give me a loan because I didn't have any history of actually making payments. The car company was happy to give me a loan but their interest rate was higher than I would have gotten if I had made car payments in the past. The credit score, then, is not the same thing as having a sufficient credit history.

Eileen said...

Great advice, all of this.

If one is still in grad school and has the means to do it, does it make sense to pay down student loans or put that money into savings? I've got one interest-bearing loan and one with interest subsidized by the govt til I get out of school. Depends on the interest on the loan vs the interest on the savings?

(And any chance of a financial do/don't list for grad students? This has some good bits, like don't start accumulating credit card debt if you can help it, but are there other things you wish you had/hadn't done?)

Tenured Radical said...

Shane:

Although I am not a shill for Republican tax policies (I just play one on TV) I have never heard of the tax system as you describe it (i.e., the feds taxing at different rates within the same fiscal year.) But I have known a fair number of first-year faculty who are shocked at how much they owe in April, and when I have gotten large raises I have had to adjust accordingly myself in order to make sure I can pay Uncle.

But the accountant can help with many of these items, even the question of differential rates. My point is that since new salarymen and salarywomen are often catapulted into a far more complex world that requires new knowledge, they need to get professional help to make sense of the whole picture.

Janice said...

I remember that my disposable income actually dropped when I started my tenure-track job, even though I was pulling in a real salary. Between student loan payments, car payments (teaching at 8:30 in the morning and 'til 10 at night made this sadly necessary) and an apartment rental in a city with a 1% vacancy rate? Ouch.

You might expect to be more flush but chances are, especially once you're done with all the calculations, you'll still need to live frugally.

Susan said...

Generally sound advice here, TR.

Just a little piece on the taxes: you don't need to send the money to Uncle Sam, even if you will owe more than you expect. Just put money aside. As long as you withold at least as much as you owed this April, you won't owe any penalties. But do figure out what you think you'll owe, and put that aside.

Actually, Turbotax and other such programs mostly have adequate tax estimation programs, and they are generally cheaper than an accountant.

And I'd add, find a good credit union. Usually with direct deposit they will give you a car loan, etc.

Dr. Virago said...

John - Yes, that's it! Having regularly paid credit cards and student loans establishes credit *history*. I think that's what I was trying to express, but mistakenly talked about "score" instead of "history." So there is *some* good to having that history -- which is why my sister helped me establish one back when I was in college by getting me on her American Express. And then I was able to get my own card after that.

I think the percentage of the debt you have vs. what's available to you matters, too, but I can't remember how that works.

Comrade PhysioProf said...

This blog is misnamed. It should be called "Tenured Prudent Radical".

AHAHAHAHAHAHAHAHAH!!!!!!

Adam said...

Hello (I'm a mostly lurking fan of the TR),

In response to Eileen, it can make sense to pay down some of the interest bearing student debt while still in grad school since that interest will become capital and will increase your interest when it all comes due. However, it doesn't make sense to pay down any more than that. I just went from grad. student to "real job" last year and my consolidated interest rate on my student loans is 2%...which is absurdly low. If you plan on graduating in the next year or maybe even two, I personally would say you might be best off saving instead for all the craziness that TR so accurately describes.

Tenured Radical said...

Comrade:

Or it could be called Tenured Always Thing Of Others Radical.

Nighty-night.

Shane in Utah said...

Hmmm. I must not have explained myself clearly. And not being an accountant or economist, I'm not sure I can do any better this time around. But I'm trying to explain, not "different rates within the same fiscal year," but the difference between marginal tax rates and overall tax rates. Here's the point: if you make $5000 in the first six months of the year, and $50,000 in the last six months, you'll still pay exactly the same amount of tax on that first $5000. The marginal tax rate only kicks in on each dollar earned past the threshold for the higher tax bracket.

Where someone could get in trouble, and where an accountant's advice could be useful, is if one went to the new, higher-paying job and declared the same number of exemptions for withholding purposes that one had declared in the previous, lower-paying job. I suspect that's how your friends found themselves owing taxes that first year.

Anyway, I'm picking nits. The gist of your advice was right on.

Anonymous said...

Great Post TR! I had to learn a lot of those lessons the hard way when I started my job five years ago.

Eileen: One thing that helped me get through the lean years of grad school and the first couple of years as a lecturer was a budget and obsessive record keeping:

Get a copy (if you don't already have one) of Quicken for the PC or use their website if you have a mac. I used it to balance out my checking and savings accounts to the last penny every week. Knowing exactly what was in the bank made me feel empowered.

Second, I paid myself $40 of mad money each week. That meant I could always go out with friend for lunch during the week or for a couple of beers after seminar. That minimized my sense of deprivation, and meant that I didn't do anything stupid like charge up a bunch of housewares on the credit card.

Good luck with finishing grad school and landing your dream job!

Anonymous said...

(The notion that an increase in the tax rate affects the entire income is a very common and pernicious misperception perpetuated by our media in every discussion of tax rates they ever publish.)

I don't think that's at all what TR was arguing, but I still agree that her claim does not compute. What generally happens is the opposite: after a job change with a large increase in salary, people are surprised to see how much is being withheld. Not because they don't expect to pay more in taxes, but because the withholding corresponds to an assumption that they've held the job all year. With a regressive system, this means that they are over-paying. Here's an example:

An institution withholds under the assumption that you had the job for the entire year.

Assume a very simple tax system, where the first $20k is taxed at 10%, and any income beyond that is taxed at 25%.

Now suppose I make $10k in the first six months of 2010 at Job 1 (annual salary of $20k), and $30k in the last six months of 2010 at Job 2 (annual salary of $60k).

Job 1 taxes me as if I held the job all year, i.e. they assume I will make $20k that year, and they tax me at 10%. So I pay $1k in taxes for that first six months.

Now since my total compensation for the 2010 will be $40k, I should be paying

$20k*.1 + $20k*.25 = $7k,

in total taxes based on the tax system I laid out. And since I paid $1k at my Job 1, ideally Job 2 would tax me at $6k/$30k = 20%. But they don't. They assume that I will have held the job all year, so they instead tax me at 25%.

I will get a refund, of course. But this is a problem that pretty much everyone changing jobs with a steep increase in pay can encounter. I am surprised to her TR claim the opposite.

Bardiac said...

Good advice!

I'd add: If you can start putting even a small amount into a 403b to at least get whatever matching your school might do, that will help down the line (if your job's on board with such things). It's important to remember that a lot of us are starting retirement savings late and aren't really going to make great money. Getting money taken out ahead of taxes (rather than after as with a Roth) makes it a bit less painful.

Anonymous said...

And since I paid $1k at my Job 1, ideally Job 2 would tax me at $6k/$30k = 20%. But they don't. They assume that I will have held the job all year, so they instead tax me at 25%.

Oof, I totally bungled that example. My simplified tax code was too simple, so the numbers work out either way.

Instead, assume this system:

10% on first 10k, 20% on 10k-40k, and 30% on anything beyond 40k.

Assume the same income/jobs as the previous example.

Job 1 assumes that I will make $20k that year, so they tax me half of what my total tax burden would be for that year:

10*.1 + 10*.2 = 3k

Half of that is 1.5k.

Job 2 assumes that I will make 60k that year, making my total tax burden:

10*.1 + 30*.2 + 20*.3

or 13k, so they withhold half of that for 6 months, so 6.5k.

So I pay a total of 8k in taxes.

But I'll only make $40k, so my real tax burden should be

10*.1 + 30*.2 = 7k.

So I am overtaxed by almost 15%.

right-wing prof said...

Actually what you should try to do, if possible, is continue living the lifestyle you were leading in graduate school, and save ALL the rest of the money for a few years (and/or paying off your debts). Save up for a downpayment on a house, start and IRA, whatever, just save save save. In a few years you'll have a wife and a herd of kids and life is going to be a lot more expensive. If you can sock away some serious cash before that happens it will make life a lot easier.

If you had a herd of kids in graduate school, well, you can pay me back for the WIC and EITC etc... later.

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