401(k)s are the most efficient retirement plan. Recapping my last post, if you have a 401(k), take advantage of it. Especially the before tax contributions. Tax deferred compounded growth is incredible over time, some might say it’s magical.
“What if I don’t have a 401(k)?”
There are other retirement plans out there- don’t worry. Employers have other types of sponsored plans and you can always set up your own. In this post, I will focus on the traditional Individual Retirement Account, also known as an IRA.
If your company doesn’t offer you a retirement plan like a 401(k) or a 403(b), you can open and contribute to an IRA.
Some things you need to know about an IRA:
- You can contribute a maximum of $5,500 a year
- You can contribute until you are 70.5
- If you are not covered by a qualified plan, your contributions are tax deductible
- When you take money out of your IRA at retirement, you will be taxed on the distribution
- If you take a distribution before you are 59.5, you will incur a 10% penalty
- You are required to take a minimum distribution from this account starting at age 70.5
Downside to an IRA? If you put more than $5,500 a year in, you will incur a 6% annual penalty tax on the excess amount. You will keep getting taxed as long as that excess stays in the account.
New tax law changes allow individuals over 50 years to contribute an additional $1,000 a year without getting hit by the penalty tax. This is known as the “Catch Up” provision. If you start saving for retirement early, you probably won’t need the Catch Up provision. If you don’t think about retirement until you’re 50, then this can be a useful tool.
Another type of IRA is the Roth IRA.
Some things you need to know about Roth IRA:
- You can contribute a maximum of $5,500 a year
- There is no age limit for contributions into this account
- There is no tax deduction up front
- Withdrawals are tax free (as long as the money is kept in the account for five years and you are 59.5)
- There is no requirement to take a minimum distribution from the account when you are 70.5.
Downside to a Roth IRA? High income earners (over $131,000) can’t contribute to it.
If you have an employer sponsored retirement plan, you can still open up an IRA and contribute to it. You could have both a Roth IRA and a traditional IRA if you wanted. Disclaimer with having a Roth and a traditional IRA: you can only contribute a total of $5,500 into the two accounts yearly.
When should I invest?
If you open an IRA, I strongly suggest putting money into that account monthly. Sure, you could put a lump sum in all at once if you wanted to, but you will miss out on sales. Who doesn’t love a good sale?
If you put $100 into your IRA monthly and the market is down, you’re taking advantage of the market and buying more shares at a lower price. Most investors are too scared to invest when the market is down. They don’t get to take advantage of the market like systematic investors do.
Systematic investors outperform the market over time because they remove their emotions from investing.
When you invest the same dollar amount monthly or periodically in fund shares, you’re using an investment method known as dollar cost averaging. As long as prices fluctuate fairly evenly, dollar cost averaging always results in slightly more shares being purchased, resulting in a lower average cost.
You get more for your money this way. You worked hard to invest that money, make sure you’re getting all you can from it.
Another reason I suggest systematic investing? Maxing out your IRA in one or two transactions is overwhelming. Especially if you are just starting out. By investing smaller monthly amounts, you are able to take advantage of dollar cost averaging and you aren’t left with a big hole in your pocket that month.
How do you eat an elephant? One bite at a time.
Speaking of bites…this week’s sweet is one of my favorites, hummingbird cake.
Disclaimer: no birds were harmed in the making of this cake.
Pineapple, pecans, bananas, and cinnamon go so well together. Instead of using crushed pineapples, I like to cut the pineapple into larger chunks. I think it’s nice getting a larger piece of fruit, it makes the whole cake eating thing seem a little healthier. Seem being the key word here.
I was pretty rushed on time, so I decided to try the rosette frosting technique again. I finally got it right- starting from the inside and working my way outside. I think it looks a lot better than the last one!
It’s safe to say that this cake will also be making an appearance at Easter dinner.
That’s all for this week, folks! If you have a question on which retirement plan is right for you, why dollar cost averaging is a great investment method, or anything else, shoot me an email at email@example.com.
Thanks for reading!