how to invest when you're broke

How do you start investing if you're barely scraping by?

Say you're making $25,000 a year and know that (along with feeding yourself, paying for gas, rent, etc.) you need to start thinking about your future.

It pays to do that, because even small amounts add up surprisingly fast if you invest on a regular basis. And Uncle Sam will even kick in free money on top of that.

For instance, over the past 10 years, the stock market, at least as measured by the S&P 500 Index ($INX), has returned around 8%, on average, annually. Say you start with nothing and invest only $10 per week. If you pick an investment that only matches the S&P's 8% return, after 10 years, you'd have around $8,000. You have $10,000 if you got lucky and picked an investment that churned out 12% average annual returns.

Even better, if you're a poor person, the government rewards you by refunding as much as half of what you put in. Singles earning up to $15,000, head of households earning up to $22,500 and married joint filers earning up to $30,000 get a credit of 50% of funds contributed to an IRA or 401(k). That means, for instance, if you invested $1,000 in your 401(k) last year and qualified for the credit, your refund would be $500 larger. (A dedicated saver could turn right back around and plow that $500 into a Roth IRA as well.)

One big caveat: Investing in small amounts isn't about investing in individual stocks. All stock investors, no matter how talented, eventually pick a clunker, a stock that drops 25% or 30% before your first cup of coffee in the morning. That's not so bad if you own 20 stocks. But it would be a disaster if you hold only four or five.

Instead, mutual funds and exchange-traded funds make more sense for small investors. Richard Jenkins, editor-in-chief of MSN Money, explains here how to use ETFs. Below, I'll explain how to get started using mutual funds.

Why funds?
For starters, mutual funds give you automatic diversification. Most hold dozens, if not hundreds, of stocks. So, when one goes south, its impact on the portfolio is minimal.

Also, fund managers have advantages over individual investors. It's their day job, and because their trading generates huge commissions, they have access to better information than individual investors.