Where to put $1000: Starting a Lifetime Habit of Saving with a Cool Grand

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So you've got a thousand bucks. Where do you put it? Today's post will talk about what you can do with that money instead of spending it. I will give you options based on priority. The options begin with keeping the money close in a savings account, then paying off high-interest debt, saving for retirement, and then investing in the stock market.

Where you should put your thousand dollars depends on who you are:

If you're Bill Gates, you should give it to charity. If you're Joe the Plumber, you should save it to buy your boss' business. John McCain should spend it on campaign ads. Barack Obama should save it for a moving truck, because I've got the sense that he'll be moving to Washington before long. But I digress...you're the one with a thousand dollars.

First of all, let me congratulate you on making the commitment to start saving. Like commiting to lose weight, deciding to save money is a wise decision that will enhance your life, boost your conficdence, and never be regretted.

Where to put your first cool grand is going to start with your financial plan. The highest priority that I recommend in any financial plan is to have a reasonable cash balance before putting money anywhere else. Deposit the thousand dollars that you have in your pocket in a cash account that is easily accessible, like an interest-earning checking or savings account. No, you won't get rich quick, but you should still keep it as close as you can without putting it under the mattress. Here are two reasons why:

1) It is in your best interest to have more cash available than you need on a monthly basis. Some say that it's a good idea to have three, four, five, or even six months worth of expenses in cash. I don't necessarily agree with six, but I could be convinced that three is a good idea. Extra cash is important because annoying financial circumstances arise all the time, and without a buffer, those annoying circumstances are likely to put you into debt. Two weeks ago, my car needed an unexpected repair that cost me $420. If I hadn't had the cash to pay for it, I may have had to borrow the money from a friend or, even worse, a credit card company. Keeping extra cash in the bank is essential to prevent those annoying, yet inevitable, financial inconveniences from becoming financial disasters.

2) The other reason to save money in a cash account is purely psychological. Though you're not going to get rich earning 3% interest, you'll never lose anything, either. Over the past few months, my stock portfolio has decreased about 35% in value. If you put your first thousand dollars of savings into the stock market and end up losing a third of it, you may be discouraged from saving in the future. Before investing in stocks or mutual funds, build up a stable collection of cash that will grow slowly, but surely.

So my first piece of advice about your thousand dollars is pretty simple. Put it in a slow-growing savings or checking account (check out a Schwab or E*Trade checking account) so that the money is accessible if you need it. Once you've built a nice cash reserve, it's time to look at debt.

Notice how my first priority was to build up a small cash reserve before looking at credit card debt. If you've got some cash in the bank, before putting your $1,000 anyplace else, use it to pay down/eliminate any credit card debt that doesn't have a low promotional interest rate (0-4%). Credit card debt is a real leach when it comes to personal finance and it should be eliminated before investing your in-hand money anyplace else. Start with the card with the highest interest rate and then work your way down.

If you've got a thousand dollars to invest and already have a cash reserve that you're comfortable with and no credit card debt, then I'd look into putting it into a Roth IRA. Why a Roth IRA? Well, it's a tax-advantaged retirement account into which you deposit cash-in-hand. Your other retirement options, like a 401(k) and a traditional IRA deal with pre-tax money; if you have $1,000 in-hand, it's after-tax money and can only be deposited into the Roth IRA retirement account. E*Trade, Vanguard, Fidelity, and many more companies offer Roth IRA accounts. Check out the no-load, no fee mutual funds (preferably one that is tied to an index, like the S&P 500), as they have the lowest overhead costs and tend to perform just as well as more expensive managed funds (the ones that charge you fees to employ a manager that tries to beat the market, but rarely does). If you're under 50, you can deposit up to $5,000 per year into a Roth IRA. Those 50 and older may contribute $6,000 per year.

I could go on and on with additional investment advice related to stocks, CDs, money market accounts, or retirement. But we're talking $1,000 here. In summary, if you have an extra pile of cash sitting around, whether it's $100, $500, or $1,000, here's what you should do with it:

#1 - Make sure you've got extra cash in your checking/savings account that you can easily access.
#2 - Once you've got a little extra cash in the bank, use the money to pay down/off any credit card debt that you have, starting with the highest interest rate (not the smallest balance).
#3 - When you have no credit card debt, open a Roth IRA or contribute to one that you've already opened. Be sure to invest in no-load, no-fee funds, as they have very low costs and tend to perform just fine. Look for funds with a Net Expense Ratio under $.50.
#4 - Only after saving up some cash, after paying off high-interest debt, and after putting the maximum amount into a tax-advantaged account should you consider investing any serious amount of money in stocks. With a Roth IRA, your gains will never be taxed. With stocks, all of your gains will be taxed.

If you've made the commitment to start saving, pat yourself on the back. You won't regret the decision to live a financially healthy lifestyle.