Can You Contribute To A 401(k) And SEP-IRA At The Same Time?

July 13, 2018

One trend I’ve noticed in recent years is people with full-time jobs starting a business on the side. Some folks are looking to earn some extra cash and some are passionate about a hobby or pursuit and want to try to make a business from that passion.

If you have a side gig such as catering, photography, or blogging in addition to your “real job,” it’s important to know that there are distinct types of retirement plans that you can use for each. Being aware of how they work together can allow you to save more for retirement, while possibly saving on taxes today.

What is a SEP?

First, a quick review of what a SEP-IRA is. Most of us are familiar with our 401(k) plans at work – in order to contribute, you have to work for the company that’s providing it. Similarly, a SEP-IRA is a retirement plan tied to a company, but it’s specifically designed for self-employed individuals and small businesses.

How do contributions work?

Unlike the 401(k), where both the employer and employee are able to contribute to the account, all contributions to a SEP-IRA are considered employer contributions. For 2018, you can contribute the lesser of 25% of your gross salary (or 20% of your net adjusted annual self-employment income) up to a maximum of $55,000. You have until your tax filing deadline to make your contribution, so many people with SEPs choose to wait until then so that they know exactly how much they can put in (your CPA and most tax prep softwares will calculate this amount for you).

Keep in mind that if you employ anyone to help out with your business, you also have to put the same amount in their account as you save for yourself. You can adjust your contributions each year, so if your business is having a great year, you can save more. You can also save less (or not at all) in years that are tight. However, you do have to have self-employed income to make any contributions.

Can I use a SEP-IRA if I also contribute to my 401(k)?

If you are an employee of the company you work for (aka you receive a W-2 at tax time) and you also have a side business that you own, you can actually make contributions to your employer’s 401(k) plan and contribute to a SEP-IRA for your business. That means that having a side gig can allow you to save beyond the 401(k) annual limit of $18,500 (or $24,500 if you’re over age 50)!

Here’s an example of how it might work:

Let’s say you are already maxing out your 401(k) at work.
Now let’s say you also do a little wedding photography on the weekends, which brings in another $20,000 this year.
You could open a SEP-IRA and contribute $5,000 (25% of $20,000) for this year.
Because the 401(k) and SEP-IRA are with two different companies with no common control, saving in your 401(k) does not impact how much you can save into a SEP-IRA.
It’s important to note that if you have two jobs where you work for someone else and have 401(k)’s at both, that the $18,500/$24,500 limit applies to both across the board; the SEP-IRA, however, could be in addition to the 401(k).

As you can see, the potential to reduce your taxable income and save for retirement becomes very powerful!

Other things to consider

It is crucial to run your situation by your tax professional to make sure your strategy is best suited to you.
I also suggest reviewing this FAQ site from the IRS to get additional information.
My colleague, Scott has also written a great piece about SEP IRAs that can help if you’re looking to set one up.

Understanding your options and having a well-coordinated plan can help you manage your taxes and do some serious savings for retirement!

Common Mistakes To Avoid When Starting A New Job

July 10, 2018

This month marks my 2-year anniversary of joining Financial Finesse. Prior to making the move, I was with my previous employer for 17 years. It was my first change in employer since college. While I am a seasoned veteran at my job, I was a rookie at changing companies.

Transitioning from one company to another can be an exciting time but it also presents many opportunities for costly financial mistakes. Here are some areas you will want to focus on if you recently made a change of employer.

Common mistake: lack of budgeting for new cash flow

There is nothing more fundamental to your finances than your cash flow. Understanding the method in which you are paid is essential to your budgeting habits. While most job changes are made to increase cash flow, you have to plan for how it may differ from the previous employer.

You may be switching from a company that paid biweekly to now getting paid bimonthly. Or there may be a lag between your starting date and your first paycheck. In my case I went from a job that was primarily salary based compensation to a job that had a larger performance based component.

We had to readjust our monthly budget to accommodate for those changes. We adjusted to using the performance based compensation to save for our “big wants” like vacations, which freed up the regular compensation for our week-to-week needs.

How to avoid it

If you’re fortunate enough to receive a signing bonus, don’t “pre-spend” it, but instead keep it on hand for the first couple months in case you need to adjust to a change in cash flow. If you don’t receive a signing bonus, try to cut back on spending for a few weeks leading up to your job switch so that you’ll have an extra cushion.

Common mistake: choosing the wrong health insurance

When changing jobs mid-year, you have an opportunity to re-enroll for health care. Even if the coverages are administered by the same provider, the coverage options can still differ greatly. In our case the insurance company remained the same so there were a lot of similarities all the way down to the insurance cards looking the same, but when we looked under the hood the coverage was different.

How to avoid it

Be sure to download your coverage details from your former employer and compare it to your new company’s offerings. Get the information from your new plan options to make sure your preferred doctors and hospitals are available in the plan you are choosing, even if you are staying with the same insurance company.

Common mistake: keeping your retirement planning on auto-pilot

Not all retirement planning benefits are equal, so it is not safe to assume you should contribute to your retirement plan the same anywhere you go. Before you just go with the default at your new company, take some time to understand how the new retirement plan works.

How to avoid it

Get the match – At the most fundamental level, you need to understand if your new employer offers a match and when you are eligible to start receiving that match. This ensures you are not leaving free money on the table.

Pick your investment – Next up review your investment options and choose one. I have seen cases where no investment choice was made and the default option wasn’t the best fit. If you are unsure which investment is the best fit, many plans offer several hands-off investment options.

Pre-tax or Roth – Your new plan may also offer options that may not have been available at your previous employer like Roth 401k and after-tax savings. There are resources that can help you determine which option may work best.

Common mistake: missing out on unique benefits

Perform a deep dive into your benefits beyond the basics. Sometimes you can find hundreds of dollars of savings in your employee benefits, but you have to take some time to read up and maybe do some digging.

Here are some examples of unique benefits you may want to explore:

Student loan assistance – Some employers aid with managing your student loans. Some programs offer to pay a portion of your loan after a reaching a certain level of tenure. Other companies offer student loan experts to help you refinance.

Legal benefits – If getting a solid estate plan in place is one of your goals, investigate your new company’s Employee Assistance Program or EAP. These programs sometimes offer free legal document preparation software. They also may offer discounts on local attorney services.

Your company may also offer a pre-paid legal program that will allow you to have the cost of will or a trust covered by you making small monthly payments. In many cases you can enroll in the program with a single year’s commitment and have a large amount of legal work done at a significant discount than you would pay otherwise.

Financial wellness benefits – Last but certainly not least, your company may offer financial wellness benefits. I spoke to someone recently who said they were having a hard time finding a financial advisor that would help them with their plan to pay off debt but had just learned that their company added a Financial Wellness benefit. She was excited because her family has likely saved hundreds of dollars because of her company’s benefit.

How to avoid it:

Take some time in your first 60 days or so to peruse your company’s benefits website and/or brochure. Ask around to see what benefits your colleagues value the most. Finally, when the annual enrollment period rolls around, don’t just go on auto-pilot — it’s a great chance to assess whether you made the best choices and to switch things up as necessary. Your employee benefits are a valuable part of your compensation, so make the most of them.

5 Ways You May Be Sabotaging Your Financial Independence

July 02, 2018

Take a moment to think about what you would do if you were financially independent. Would you travel, volunteer, spend more time with family or friends and “treat” them or yourself more often? Is financial independence something you want to achieve and life keeps getting in the way?

This month, take a stand and start choosing the financial lifestyle you want. When the people who founded the United States of America declared the nation’s independence, their biggest interest was in achieving each individual’s freedom to determine his or her own financial destiny. Here are some things you may be doing wrong, and the keys to setting yourself up for financial independence:

NOT writing down your financial goals or action plan. It’s easy to procrastinate your way to financial mediocrity or even financial ruin, but studies show that people who just write down their goals and action plans are significantly more likely to achieve them. You’ll be thanking yourself later. Create a S.M.A.R.T. (Specific, Measurable, Attainable, Relevant, and Timely) goal plan using the S.M.A.R.T. Goals worksheet, and use online calculators to figure out the savings or payment rates you’ll need.
NOT using a spending plan to guide your financial decisions. Look at your transactions over the first six months of the year, and compare them to the plans you made. Can you see where you need to reign some things in, and where you’ve done a good job sticking to your plan? Keep up the good habits, and change the ones that aren’t working now.
NOT paying off debts quickly and wisely. Include a plan to pay off credit cards every month, automate the payment of low interest debt, and eliminate high interest debt.
NOT keeping an emergency fund. Lacking a cushion of funds to pay for the occasional car repair or veterinary bill can repeatedly sabotage the best of financial plans. Use a separate savings account or a Roth IRA, whatever works best for you, to stash some cash that you will not touch unless it’s for an emergency.
Making poor investment choices. Don’t leave your financial dreams to chance! Invest for the long run and not like a day trader (unless you ARE a day trader). Take advantage of the tax benefits offered by retirement accounts to set up a diversified, long range portfolio. Then put money into those accounts consistently and generously to accelerate your achievement.

It’s never too early, or too late, to start matching your financial decisions up to your goal of financial independence. You might even enlist your friends to help you stick to the plan and avoid poor choices that will sabotage your success. Keep with it and soon you will be enjoying your financial freedom.

How Your Social Security Benefit Is Calculated

June 18, 2018

Most people know that the amount of your Social Security benefit depends on two things:

The age you are when you elect to begin receiving payments
The highest 35 years of your earnings

However, there is a lot of confusion around how your benefit is affected if you work past age 62, especially if you’re in your highest earning years.

Here’s what you need to know

Your earnings are indexed for economy wide wage growth

In other words, you may be making the most total dollar amount of your working years right now, but that might not mean it’s your highest year for SS purposes.

What that means is that Social Security plugs your annual earnings into a table over all of your years of working and multiplies the earnings by an index to get everything in current dollars. Then they take the 35 highest years from that table to calculate your benefit.

Figuring out your 35 highest earning years

To figure out your 35 highest years, go to this website, then enter the year you will first become eligible to receive payments (the year you turn 62). I was born in 1977, so will turn 62 in the year 2039. Once I have the index factors, I can pull out my earnings report (which you can access through your SS account) and multiply each year’s earnings by the indexing factor.

For example, the first year I had wages was 1992, when I earned a whopping $136. The indexing factor for 1992 is 4.8442967, which means that $659 is the amount used in figuring my highest 35. Do this for each year, then add up the highest 35 (or for me, since I don’t yet have 35 years, I just add them all up), then divide by the total number of months in those years. This is your average indexed monthly earnings (AIME).

If you have 35 years of earnings, you just divide by 420. Since I’ve only had 26 years to date, I’d use 312 for now. So if you add up all your indexed years and get $3,000,000 and divide by total months of 420, your AIME would be $7,143.

Plugging your 35 highest years into the formula

Once you’ve added up the highest indexed 35 years and divided by the total months you’re counting to get your average earnings, you plug it into a formula. Using the example above, here’s how the formula works:

90% of first $885 of earnings:	($885 x .9)	=$796.50	Remaining earnings:	$6,258
32% of earnings above $885 up to $5,336	($4,451 x .32)	=$1,424.32	Remaining earnings:	$922
15% of everything above $5,336	($992 x .15)	=$138.30	TOTAL:	$2,359.12

How to use this information

The good news is that the Social Security Administration does this work for you, but knowing how the formula works can help you if you are trying to figure out whether continuing to work will actually increase your benefit and if so, by how much.

In order to figure it out, you basically have to take a look at your indexed earnings so far, then make sure you’d be able to out-earn your 35^th lowest year.

You may be surprised to find that your lowest earning year in actual dollars may NOT be your lowest indexed year. Likewise, your highest indexed year could very well have taken place many years ago, even though you’re earning more in actual dollars today.

Is it worth it?

Finally, even if your projected earnings are substantially higher than your lowest 35^th year, you may find that the increase to your benefit would be minimal. When I ran a few examples of a worker just matching highest actual dollar years in continuing to work, the monthly benefit increased by less than $15.

Depending on your projected monthly retirement expenses, that additional $180 per year could make a difference, but most people I know in their 60’s would pay $180 per year in order to retire sooner, no?

Ways To Delay Social Security While Maintaining Your Lifestyle

June 14, 2018

Financial planners generally agree that delaying your Social Security retirement benefits can be an excellent way to maximize your available retirement income and potentially stretch your savings over your lifetime. As you are probably aware, each year past full retirement age that you wait to file your claim, your Social Security retirement benefit increases by as much as 8%. Where else are you going to find a guaranteed 8% return on an investment these days?

Where else are you going to find a guaranteed 8% return on an investment these days?

On the other hand, if you are thinking about waiting until after you reach full retirement age to claim your Social Security retirement benefit, you might also be wondering where you are going to get the income that Social Security will not be paying you during those years when you delay this benefit. Fortunately, making a few little changes to your retirement spending plan in the near term could result in some big benefits in the long run.

How to plug the gap

Continue working a little longer

This is probably the most obvious alternative for generating income in place of a delayed Social Security retirement benefit and what most people choose to do. Working full-time or part-time provides immediate cash flow, but there is also another benefit that may not be quite so obvious.

Each year that you continue to work past your full retirement age, you also continue to accrue Social Security credits. These additional earnings and credits might begin to replace those from some of your earliest working years when you worked for significantly lower wages, fewer hours, or both. As a result, the formula used by the Social Security Administration to calculate your retirement benefit could generate an even larger benefit check than if you chose not to work a few more years.

Spend a little more of your retirement savings in the early years

I’m always surprised by the number of people who just assume they have to start collecting Social Security just because they are done working. Many of us have been coached during our working years not to touch our retirement assets and to make them last as long as possible once we do retire. Consequently, spending a little extra on the front end of retirement might seem like the wrong thing to do.

However, according to research by William Reichenstein and William Meyer, if your retirement portfolio is somewhere between $200,000 and $600,000, this strategy might be a good way to minimize taxes and stretch your retirement savings. Keep in mind, the additional spending only happens until you turn on your delayed – and larger – Social Security benefit. At that point, you would then begin spending substantially less of your retirement savings.

What it looks like

Let’s say your monthly Social Security check at a full retirement age of 67 would be $1,800. If you delay filing for three years until the maximum claiming age of 70, your check would increase to $2,232 (not counting any cost of living adjustments or additional credits for working during those years) or a flat 8% for each of three years, giving you 24% more Social Security income.

Since you would not be receiving the $1,800 in monthly Social Security between the ages of 67 and 70, you would have to withdraw an additional $21,600 from your retirement savings each year ($1,800 x 12). However, at age 70, not only would you be able to stop taking out the annual $21,600 from your savings, you would also begin receiving an additional $5,184 each year from Social Security, thanks to the delayed retirement credits paid to you by Social Security in return for delaying your benefit until the maximum claiming age of 70.

Convert a little of your investment portfolio to an income annuity

Everything you’ve heard about annuities is generally true: they can be expensive, complicated, and very difficult (as in even more expensive) to unravel if you change your mind. However, not all annuities are the same. An income annuity (also known as an immediate annuity) is about as plain vanilla and inexpensive as these products can get.

Assuming you have a pretty good idea of what your retirement budget may look like, converting a portion of your retirement portfolio to a lifetime stream of income by purchasing an immediate annuity at or a few years before you retire can help take some of the unpredictability out of your future retirement income.

There are many ways to slice and dice this strategy, and the free immediate annuity calculator at ImmediateAnnuities.com can help you see how much income can be generated from various investment amounts. Another great feature about this site – no sales pressure. You do not have to enter any personal contact information.

Think a little longer before you choose a reverse mortgage

If you are at least age 62 and have a considerable amount of equity in your home, you might be considering a reverse mortgage as another way to bridge the income gap between the date you retire and the date you elect to claim your delayed Social Security benefit. However, caution is advised with this particular strategy.

The Consumer Financial Protection Bureau (CFPB) recently issued a report advising older consumers that the relative costs and associated risks of taking out a reverse mortgage loan may not be worth the additional increase in delayed Social Security retirement benefits. The report points out that consumers should be fully aware of how this strategy may significantly reduce available home equity and limit retirees’ ability to handle future financial needs. The CFPB also makes available a helpful “Reverse Mortgage Decision Guide,” as well as an informative video for those who wish to know more about reverse mortgages.

A few more ideas

Finally, a few more ideas to help you bridge that retirement income gap include these:

Encourage your spouse to work a little longer to prolong income and benefits.
Live on less for a few years (or forever – tiny houses are popular!).
Take pension benefits (if you have a pension).
Convert some of your assets to cash (sell some stuff).

Whichever strategies or approaches you choose, a well-worn and familiar expression reminds us, “A little goes a long way.” With this in mind, a little change here and there in the way we manage our retirement assets just might go a long way toward making the most of our savings and enjoying retirement just a little bit more. Which one will you choose?

This post was originally published on Forbes

How One Financial Decision Changed Everything For This 35-Year Old Single Mom

June 06, 2018

As a financial wellness coach, I have the unique opportunity to dive deep into the finances of many different types of people with many different situations. Most financial advisors don’t have this perspective because they only work with “qualified prospects,” people with enough investable assets for them to manage. Because of our business model, we are able to deliver guidance to employees on every aspect of their finances from crisis situations to wealth building.

I want to share a recent client story about re-thinking your assumptions about the best way to handle what may appear to be a “little thing” that turns out to be a really big thing.

Borrowing from retirement to buy a car – good idea or bad?

A recent coaching relationship, Susan, originally contacted me because she was looking to take a loan from her 401(k) account to purchase a new car. Susan (35) works for a large corporation and earns around $80,000 annually plus bonuses. She is a divorced single mom with an 11 year-old daughter.

She was planning to buy a new brand Buick Enclave, which is a very nice SUV that would provide reliable, safe transportation for her and her daughter. It can carry up to 7 people, ideal for soccer carpool duty. Sticker price after trade-in: $40,000.

Susan’s plan was to take the $40,000 as a loan from her 401(k) because she would get a low interest rate, pay herself back the interest instead of to a bank, and have cash to buy the car, which would enable her to negotiate with the dealer for a better price. She had calculated the loan payment of $375 per paycheck (Susan is paid bi-weekly) for 5 years. On the surface, that sounds like a good plan. But I wanted her to dig a little deeper.

What’s your 5 year plan?

I asked Susan if we could take a step back for a minute to discuss her other financial goals and she agreed. Here’s how our conversation went:

Me: “What does your ideal financial situation look like in 5 years?”

Susan: “I haven’t really thought about it.”

Me: “Let’s break it down to make it more tangible and talk about some other common goals:

How much would you like to have in an account in case an emergency comes up?
Would you like to be debt-free besides your mortgage?
Do you want to put some money away for your daughter’s education?
You should have a plan to be on track for retirement some day.
How about travel or vacations?”

Setting 5 year goals

After discussing further, Susan decided to put her 5 year goals down on paper:

$12,000 in an emergency fund
No debt besides her mortgage
Start a 529 college savings plan
Increase her 401(k) contributions to get her on track for retirement
Go on a vacation each year

Me – “How does the car fit into this plan? Can you afford to be your ideal 40 year-old Susan if you buy this car?”

That got her thinking.

Financial psychology side note

As humans, we are constantly making intertemporal choices (inter – between, temporal – time periods), basically deciding to act on impulses (instant pleasure) or for the future (delayed gratification). The brain is an amazing organ. It has the ability to learn and remember, but that can work both ways. The more we make impulse decisions, the more inclined we might be to act on impulses in the future. The more we stop and think about how decisions impact our future, the stronger this part of brain gets.

The more we make impulse decisions, the more inclined we might be to act on impulses in the future. The more we stop and think about how decisions impact our future, the stronger this part of brain gets.

Why visualizing your future makes a difference in today’s choices

If we can’t visualize what we want the future to look like, we don’t have the context for what we could be giving up in the future. Susan’s car decision was impulsive — she was thinking about how it would make her feel good in the present but she wasn’t considering how it would impact her future. After understanding what she would have to give up (retirement preparedness, her daughter’s college plans, the trips she loves), her impulse turned into a thoughtful decision.

What she decided to do

So, what did Susan decide to do? After researching Consumer Reports and other publications, she purchased a 3 year-old Honda CRV for a little under $18,000. She gave up the dream car with room for the entire soccer team, but her new car rated better in safety ratings with less than half the payment.

She weighed the financing options with facts. The dealer offered her a better rate than her local bank with the option to make extra payments. Because her 401(k) loan did not allow this pre-payment option, she decided to use the dealer financing.

Now, she is able to fund her other goals. With the remaining $380 she would have paid every month, she did the following:

Opened an emergency fund and set up a $150 auto-deposit per month
Opened a separate vacation fund at the same online bank with another $150 going in each month
Opened up a College Savings account for her daughter with a monthly contribution of $50
Signed up to increase her 401(k) contributions every year by 1% to get her on track for retirement

It’s amazing how one seemingly small choice to drive a different car can make such a huge difference, but it did. What are you giving up in your future with the choices you’re making today?

Do We Really Have A Retirement Crisis In America?

June 05, 2018

Since my early days in the financial services industry, around 1997 or so, the industry mantra has always been, “Save more money for retirement; you never know how long it may last.” I’m not sure if we were talking more about time or money, but most people assume the money won’t last as long as retirement might, which is a scary thought.

The idea that we aren’t saving enough conjures up a pervasive image of an elderly grandma eating cat food because she is now unable to afford groceries in retirement. This thought always bothered me some, though not so much from the imagery as the skewed economic priorities. Have you seen the price of canned cat food lately? From what I’ve seen, it’s actually less expensive to buy whole chicken than some of the premium brands out there.

At least we can now put to rest that image of grandma eating cat food because she went broke. Unless grandma is also housing and feeding 20 or 30 felines, in which case her retirement savings are taking a severe beating.

Are we actually saving enough though?

This story is more about grandma than her cats, however, so let’s get back to her. How much has the average grandma (or grandpa) been saving towards retirement? According to a recent article, many workers contribute sporadically to their 401(k)s and similar retirement plans at work, only to see their savings eroded by subpar returns and high administrative expenses.

Other sources suggest that workers in their 40’s have saved only around $14,000 or so in their 401(k) plans, and the middle 40% of wage earners have socked away only $60,000 or so for retirement. Our own Financial Finesse 2015 research report on Retirement Preparedness shows that just 19% of workers surveyed believe they are on track with their retirement savings.

When the wolf says the sky is falling

Most of us are probably familiar with the children’s stories of Chicken Little and the Boy Who Cried Wolf. I can’t help but think about these tales when I see all the doom and gloom reporting about retirement savings in the media and from the lips of some of my financial industry colleagues.

Of course, creating a crisis mentality can be a good way to sell investments and annuities. Who wants to end up in poverty when there was something we could do about it, if we only acted now, you know, before it’s too late; before rates go up, or down, or Congress does this or that, or blah, blah, blah.

Think about who you know

Despite hearing the cries that we aren’t saving enough and will end up retiring in poverty, how many people do you know that ended up in that situation? As a practicing middle-market financial planner for the past 20+ years, I’ve seen this happen to exactly – zero people. I’m sure there are exceptions out there. There are certainly people who ended up working longer than they originally intended or scaled back their retirement expectations for various reasons. But by and large, Americans seem to find a way to make do, even when their retirement reality doesn’t turn out quite as they imagined it might.

It’s not just rich people I’m talking about

And no, I haven’t been working exclusively with high net worth clients. I’ve also started taking a very close look at exactly who is sounding the alarm about a so-called retirement savings crisis. Often the message comes from someone connected with the financial industry and with a vested interest in the sale of investment and insurance products. Politicians also get in on the message by proclaiming how the private sector has failed and how Social Security and similar programs must be expanded to save people (i.e., voters) from certain doom.

The real cost of retirement

Not the kind to take many things at face value, I began a search for some unbiased (or less-than-biased) information that might suggest exactly how Americans do spend their retirement savings. Perhaps the most telling story comes from a longitudinal study performed by the Employee Benefits Research Institute (EBRI). Following a group of households for several years, this study showed that median household spending actually dropped by as much as 12.5% in the first four years of retirement, and by the sixth year a majority of households were spending less than 80% of what they spent during their working years. (Note that these retirees were living on less than 80% of preretirement spending, not 80% of preretirement earnings.)

Other studies have confirmed this finding, like this one and this one. Most interesting to me were discoveries regarding just how frugal retirees tend to be when it comes to spending down their retirement savings:

People who had accumulated less than $200,000 in non-housing assets at retirement had spent only about 25% of their savings, on average, during the first 18 years of retirement.
Those with assets between $200,000 and $500,000 generally had spent around 27.2% by year 18 of retirement.
Wealthier retirees with nest eggs in excess of $500,000 had spent less than 12% of their savings by the 20^th year in retirement.
Even though some retirees had spent down their savings significantly in the first 18 years of retirement, almost one-third of retirees in the study actually grew their assets during that period. Those with access to pensions were much more likely to fall into this group.

The most important question is: are you saving enough?

The most important question is not so much are Americans saving enough but are you saving enough to fund your retirement? Even though there is substantial research out there suggesting that our retirement years are likely to be more affordable than we might fear, we don’t want to become lulled by false hope and fall behind in our savings efforts. The fact remains that the majority of people we work with don’t think they are on track, and the only way to get there is to save.

At the very least, contributing to one’s retirement plan at work at whatever rate the employer will fully match is a powerful move. Why leave free money on the table, right?

Beyond that, saving at a higher contribution rate may be needed in order to replace 70% – 80% or so of your preretirement income. You can use our retirement estimator calculator or a similar online calculator to measure your progress. If you are able to replace 80% of your income, then the odds are very good that you will have little trouble replacing at least 80% of your pre-retirement spending, which appears to be the true cost of your future retirement.

Should You Use Your Retirement Savings To Buy A Home?

May 01, 2018

First-time home-buyers are often surprised by the requirements of obtaining a mortgage, especially when it comes to the down payment. One way you can improve your chances of getting a home loan is by putting at least 20% down at the time of purchase. For existing homeowners like me, coming up with a 20% down payment usually starts with selling the home I’m in right now and using the equity to make a down payment on my next home.

But what about someone that may be buying a home for the first time? Coming up with a $50k down payment on a $250k home may take several years of aggressive saving, but your retirement account may not be a bad place to go for the additional funds needed to get you on the path to home ownership. In fact, the IRS offers certain breaks for taxpayers that choose to use retirement assets to purchase a first home. Here’s how it works.

Who qualifies as a first-time homebuyer?

Interestingly enough, you don’t actually have to be buying a home for the first time in your life to be considered a “first-time” homebuyer. IRS publication 590 defines a first-time homebuyer as any homebuyer that has had no present interest in a main home during the 2-year period ending on the date of acquisition of the new home.

In other words, as long as you haven’t lived in a home you owned for the last two years, you are considered a first-time homebuyer even if you owned a home previously. If you are married, your spouse must also meet this no-ownership requirement.

Using your IRA

Most people know that when you take money out of a traditional IRA prior to age 59½, there is usually a 10% penalty tax for early withdrawal. However, the IRS offers an exception for first-time homebuyers that allows first-time homebuyers to withdraw up to $10,000 over a lifetime without penalty for first-time home purchases. Keep in mind that while the distributions are not subject to penalty, they are still subject to income taxes. $10,000 probably won’t be enough to cover your full down payment, but it can help.

Does it make a difference if I use a Roth IRA?

It does. If you’ve owned a Roth IRA for at least five years, any distributions used for a first-time home purchase (subject to the $10,000 lifetime limit) are treated as qualified distributions. That means the amount distributed will not only be exempt from penalties, but also income taxes. If you have not owned a Roth IRA for at least five years, your distribution may still avoid penalties but some or all of it may be subject to income taxes.

How to use more than $10,000 from your Roth IRA

One thing you should understand is that Roth IRA distributions are subject to ordering rules, which basically means any money you put in comes out first and is therefore not subject to taxes or penalties (since you already paid taxes on the money before it went in). Therefore, the exception described above is really only applicable after you have withdrawn all of your contributions, so many people find themselves withdrawing all of their initial contributions PLUS $10,000 of growth, with no tax consequences.

Using your 401(k) or 403(b)

The same exception doesn’t apply to your retirement account through work — the only way to withdraw money from you employer-sponsored retirement plan (e.g. 401(k)) for a home purchase while you are working is through a hardship withdrawal. Buying a home is one of the reasons allowing for a hardship withdrawal, but you will pay that early withdrawal penalty if you’re under age 59 1/2 and any pre-tax withdrawals or growth in your Roth 401(k) will be taxed as well.

Using a plan loan instead

Some people use the 401(k) loan provision to access those funds to buy a home without the tax consequences, but it’s important to factor in that you’ll have to pay the funds back in order to avoid taxes and penalties. Many companies give you longer than the standard 5 year pay-back period to repay a residential 401(k) loan, but you may have to prove that you actually closed on a home in order to maintain the longer pay-back period. Also, if you leave work before paying off the loan, many plans require you to pay off the balance within a few months of separation or risk defaulting on the outstanding balance.

So is it a good idea to use retirement assets to purchase a home?

That depends. If you plan on using the equity in your home as supplemental income in retirement, some investors may consider this a good way of diversifying your retirement portfolio. However, if you have trouble making payments on the loan, not only could you end up losing your place to live, but you may also jeopardize part of your retirement nest egg. Read this Forbes article for more things to consider and like with all financial decisions, you should weigh your options carefully before deciding which approach to take.

Why You Should Max Out Your HSA Before Your 401(k)

April 25, 2018

Updated for 2021 limits

Considering that most employers are offering a high-deductible HSA-eligible health insurance plan these days, chances are that you’ve at least heard of health saving accounts (“HSAs”) even if you’re not already enrolled in one. People who are used to more robust coverage under HMO or PPO plans may be hesitant to sign up for insurance that puts the first couple thousand dollars or more of health care expenses on them, but as the plans gain in popularity in the benefits world, more and more people are realizing the benefit of selecting an HSA plan over a PPO or other higher premium, lower deductible options.

For people with very low health costs, HSAs are almost a no-brainer, especially in situations where their employer contributes to their account to help offset the deductible (like mine does). If you don’t spend that money, it’s yours to keep and rolls over year after year for when you do eventually need it, perhaps in retirement to help pay Medicare Part B or long-term care insurance premiums.

Not just for super healthy people

But HSAs can still be a great deal even if you have higher health costs. I reached the out-of-pocket maximum in my healthcare plan last year, and yet I continue to choose the high-deductible plan solely because I want the ability to max out the HSA contribution. Higher income participants looking for any way to reduce taxable income appreciate the ability to exclude up to $7,200 per year from taxes for family coverage (plus another $1,000 if turning age 55 or older), even if they end up spending the entire amount each year. It beats the much lower FSA (flexible spending account) limit of $2,750 even if out-of-pocket costs may be higher

Even more tax benefits than your 401(k)
Because HSA rules allow funds to carryover indefinitely with the triple tax-free benefit of funds going in tax-free, growing tax-free and coming out tax-free for qualified medical expenses, I have yet to find a reason that someone wouldn’t choose to max out their HSA before funding their 401(k) or other retirement account beyond their employer’s match. Health care costs are one of the biggest uncertainties both while working and when it comes to retirement planning.

A large medical expense for people without adequate emergency savings often leads to 401(k) loans or even worse, early withdrawals, incurring additional tax and early withdrawal penalties to add to the financial woes. Directing that savings instead to an HSA helps ensure that not only are funds available when such expenses come up, but participants actually save on taxes rather than cause additional tax burdens.

Heading off future medical expenses
The same consideration goes for healthcare costs in retirement. Having tax-free funds available to pay those costs rather than requiring a taxable 401(k) or IRA distribution can make a huge difference to retirees with limited funds. Should you find yourself robustly healthy in your later years with little need for healthcare-specific savings, HSA funds are also accessible for distribution for any purpose without penalty once the owner reaches age 65. Non-qualified withdrawals are taxable, but so are withdrawals from pre-tax retirement accounts, making the HSA a fantastic alternative to saving for retirement.

Making the most of all your savings options

To summarize, when prioritizing long-term savings while enrolled in HSA-eligible healthcare plans, I would strongly suggest that the order of dollars should go as follows:

Contribute enough to any workplace retirement plan to earn your maximum match.
Then max out your HSA. (For 2021, the maximum annual contribution, including employer contributions, is $3,600 for single coverage and $7,200 for family coverage, plus a $1,000 catch-up contribution for HSA holders age 55 and older.)
Finally, go back and fund other retirement savings like a Roth IRA (if you’re eligible) or your workplace plan.

Contributing via payroll versus lump sum deposits
Remember that HSA contributions can be made via payroll deduction if your plan is through your employer, and contributions can be changed at any time. You can also make contributions via lump sum through your HSA provider, although funds deposited that way do not save you the 7.65% FICA tax as they would when depositing via payroll.

The bottom line is that when deciding between HSA healthcare plans and other plans, there’s more to consider than just current healthcare costs. An HSA can be an important part of your long-term retirement savings and have a big impact on your lifetime income tax bill. Ignore it at your peril.

6 Ways To Make The Most Of Your Workplace Financial Wellness Benefit

April 17, 2018

As an unbiased financial wellness coach, one of my personal missions is to help people realize that much of what they need to make the most of their finances is available through work by using their financial wellness benefit. Many of the employees I talk with via the Financial Helpline aren’t even aware of the full suite of benefits they have. Even if you don’t work for a company that offers our programs, chances are you have some type of benefit that can help.

What can you do with a workplace financial wellness benefit? A lot – and it doesn’t cost you a dime to get help tackling your debt, getting ready to buy your first home, running a retirement projection or understanding the difference between a Roth and Traditional 401(k). You may have access to a wide range of resources, including financial coaching, workshops, webcasts, peer-to-peer groups and online learning tools, all paid for by your employer.

Even just using your benefit may put you in better financial shape

What’s the upside of participating over time? Our research found that those employees who were repeat users of their workplace financial wellness programs had higher overall financial wellness, were better prepared for retirement, managed their cash flow more effectively and were more comfortable with their debt levels. Here’s a summary of the progress participants made between taking their first financial wellness assessment and their most recent one:

	1st assessment	Last assessment
I have a handle on my cash flow.	67%	77%
I have an emergency fund to cover unexpected expenses.	51%	59%
I check my credit report on an annual basis.	54%	71%
I am on track to reach my income goal in retirement.	18%	39%
I feel confident that my investments are allocated appropriately.	31%	51%
I have taken an investment risk tolerance assessment.	43%	65%
I rebalance my investment accounts to keep my asset allocation plans on track.	33%	58%
I carry enough life insurance to replace my income.	46%	60%
Average overall Financial Wellness score	4.85	5.96

6 ways you can take advantage of the benefit

1. Find a financial mentor

Navigating financial issues has become increasingly challenging, with employees facing more and more complex decisions about health insurance, tackling debt and student loans, saving for retirement and balancing competing priorities. A workplace financial wellness coach can help guide you through all that “life stuff,” helping you understand your options, weigh the pros and cons of each and assess the impact on your financial trajectory.

Depending on your company’s financial wellness program, you may be able to talk to someone on the phone and/or in person. That coach becomes your financial mentor – someone to cut through all the jargon and help you clarify the actions needed to move you towards your most important goals.

Mentoring from a financial coach is different from advice. A financial mentor empowers you to make wiser, more confident financial decisions for yourself. Questions to ask your financial coach/mentor include:

Can I speak to you on the telephone, in person, or both?
Can I email you my questions?
Is there any limit to how many times we can work together?
Do you have a professional designation, such as the CERTIFIED FINANCIAL PLANNER™ designation or CPA credential?
Is this completely unbiased with no sales pitch?

Heads up: make sure that your financial coach is truly unbiased and isn’t just trying to use the phrase “financial wellness” to sell you investments, insurance or anything else. A real financial wellness program won’t sell you anything.

2. Grab a life line

If you are living paycheck to paycheck or feeling overwhelmed by bills, your financial wellness program can help. Debt and cash flow issues are primary drivers of financial stress. Reach out to a financial coach, who can brainstorm with you on ways to get a handle on your cash flow to free up resources to tackle debt and save for emergencies.

Many companies who offer workplace financial wellness programs encourage employees seeking retirement plan loans and hardship withdrawals to talk through the advantages and disadvantages with a financial coach and work through alternatives, if there are any. You’ll find that your financial coach or credit counselor listens without judgment, offers a practical process for coping with financial stress and anxiety as well as achievable action steps. That can be a lifeline when financial stress has become unmanageable.

3. Maximize your benefits choices

If you aren’t taking full advantage of your employer-sponsored benefits, you could be leaving as much as $1 million on the table over the course of your career. Before you make your benefits elections during open enrollment this year, schedule some time with one of your workplace financial wellness program’s financial coaches to do a complete benefits review with you, asking these kinds of questions:

Am I earning the full employer match in my 401(k) or 403(b) plan? How can I contribute more? Should I sign up for the automatic rate escalator?
What health insurance plan makes the most sense for me? How can I get the most out of it?
Am I leaving any money on the table in benefits I could be using?
Am I taking full advantage of all the ways to minimize my taxes?
Am I making the best use of the insurance benefits my employer offers?
Should I put more in a health savings account and/or a flexible spending account?
Can you help me understand all my voluntary benefits (e.g., legal, commuter, tuition, etc.)?
Can you help me calculate the value of my benefits as part of my overall compensation?

4. Run a retirement projection

Have you run a retirement projection yet? If not, you’re not alone. Half of all employees (51 percent) in 2016 didn’t know if they were on track or not for a comfortable retirement and only about one in four (27 percent) knew they were on track to reach their goals. Those who interacted with their financial wellness program over time, however, were nine percentage points more likely (58%) to have run a retirement projection and 11 percentage points more likely to be on track (38 percent).

The single most important step

The simple act of running a retirement projection may be the single most important step you can take to reach your retirement goals, per our research. If you find out you’re on track, this will reduce your financial stress and increase your confidence that you can meet your retirement goals on time or sooner. If you find out you’re not on track, you have the opportunity to change your saving or investing or adjust your assumptions, such as your target retirement date and how much you’ll need for expenses.

5. Get an unbiased second opinion on your investments

There are lots of great financial advisors out there, but there is also a small percentage that just wants to charge you high fees or worse, make off with your money. An unbiased financial wellness benefit – where there is zero selling of products or services – offers you the opportunity for a second opinion on your financial plan or investment proposal.

A financial coach can help you work through questions to ask your financial advisor and help you evaluate if your advisor’s recommendations fit your risk tolerance, time horizon and financial circumstances. They can help you check the credentials of any financial advisor you are considering hiring. Plus they should be able to help you understand the investment choices in your retirement plan in light of your financial goals and situation.

Remember, most financial wellness providers cannot offer you investment advice. They can’t tell you what to do. Rather, they can assist you in understanding your options and empower you to make the wisest choice for your situation.

6. Measure your progress

Making financial progress is a lot like losing weight. Getting physically or financially fit are both about making small changes in your behavior which you can sustain over a long period of time – preferably for life. The people who are the most successful are those who set a benchmark and track their progress.

If your financial wellness program offers you a tool for assessing where you start and a mechanism for tracking your progress, make sure to use it at least once per year. Check if your employer offers peer-to-peer learning opportunities (e.g., women and money, new employees group, etc). These offer accountability and encouragement. Having the support of a group of like-minded people is like having your personal cheerleading squad, and you’ll be more likely to “weigh in” on a regular basis.

Not every workplace financial wellness program is a true workplace financial wellness benefit, but it still may be able to help. Some companies only offer online tools, while others offer comprehensive programs which include unlimited 1 x 1 coaching. Check with your HR department on what’s available to you and how you can take advantage of it.

What’s The Difference Between Roth IRA And Roth 401k?

April 04, 2018

We’ve recently received several calls on our Financial Helpline from people who entered their Roth 401(k) contributions as Roth IRA contributions in tax software and were told that they had over-contributed. Since Roth 401(k) plans are relatively new, it’s easy to get these mixed up but the differences are important and not just when filing your taxes.

What’s the same?

Let’s start with the similarities.

Both accounts allow you to contribute after-tax dollars that can grow to be tax-free after age 59 ½ as long as you’ve had the account for at least 5 years.

The differences

Now let’s take a look at the subtle, but important differences.

1. Can you contribute?

Roth 401k:

A Roth 401(k) has to be offered by your employer. If your employer offers one and you’re eligible to contribute to the 401k, you’re good to go.

Roth IRA:

A Roth IRA has income limits. (However, there is a way to get around them.)

2. How do you contribute?

Roth 401k:

If your employer offers you a Roth 401(k) option, the contributions are deducted from your paycheck for that tax year.

Roth IRA:

With a Roth IRA, you have to open the account and make the contributions yourself, either by writing a check or having an automatic transfer from your bank account. You also usually have until April 15^th (April 17^th this year) to make a contribution for the previous year. Not sure where to open a Roth IRA? Here are some low cost options.

3. How much can you contribute?

Roth 401k:

The total limit for employee traditional and Roth 401(k) contributions is $18,500 ($24,500 if you’re over age 50 this year) for 2018.

Roth IRA:

For IRAs, the total limit is a much lower $5,500 ($6,500 if you’re over age 50 this year). The Roth IRA contribution limit can also be reduced if your income is in the phase-out range.

Contributing to one doesn’t affect how much you contribute to the other so you can do both if you’re eligible, which means for 2018 you could feasibly be putting a combined $24,000 into Roth accounts ($31,000 if you’re over age 50).

4. What can you invest the accounts in?

Roth 401k:

With a Roth 401(k), you’re limited to the choices your plan offers but this can often include options not otherwise available like higher-yielding stable value funds and mutual funds with reduced fees.

Roth IRA:

With a Roth IRA, you can invest in almost anything, including stocks, bonds, mutual funds, annuities, and even gold coins, real estate, and your own business if you have a self-directed Roth IRA. The choices (and their fees) will depend on which financial institution you choose to use.

5. How can you get the money?

Roth 401k:

With a Roth 401(k), you’re generally limited to loans and/or hardship withdrawals before age 59 ½ if you’re still employed there and if the plan allows them. Many plans also allow you to take withdrawals at age 59 ½. You can withdraw money after you leave your employer as well.

Roth IRA:

You can take money out of a Roth IRA anytime. (that doesn’t mean there won’t be penalties or tax consequences, so keep reading)

6. Are there penalties on withdrawals?

Roth 401k:

For both types of account, Roth earnings withdrawn before age 59 ½ are subject to taxes and a 10% penalty unless you meet certain exceptions. With a Roth 401(k), withdrawals are considered contributions and earnings in the same proportion as they exist in your account. This means that if you have a balance of $20,000 but $10,000 is the amount you contributed (called the “basis”) and you withdraw $10,000, the IRS will consider 50% of that withdrawal to be earnings and you’ll be taxed and/or penalized accordingly.

Roth IRA:

One of the big differences is that with a Roth IRA, your withdrawals are considered contributions first, which is important if you need access to the any of the money before age 59 1/2. That means you can withdraw the sum of your contributions at any time without tax or penalty. Unlike with a Roth 401(k), Roth IRA earnings can also be withdrawn penalty-free for education expenses and up to $10k (lifetime limit) for a home purchase if you haven’t owned a home in the last 2 years.

7. Can you roll money from one to another?

You can roll money from a Roth 401(k) to a Roth IRA but not the other way around.

What’s the bottom line?

Roth IRAs generally provide more flexibility, both in terms of how the money is invested and withdrawn. However, Roth 401(k) accounts offer greater convenience and allow you to contribute more (and may allow you to contribute at all if you make too much money). They’re both excellent ways to shield your future income from taxes so if you’re eligible, you may want to contribute to both!

Should You Save More For Retirement Or Pay Off Debt First?

March 29, 2018

This is a common question posed to financial planners and advisers: “Should I save more for retirement or pay off debt first?” Even well-known personal finance pundits disagree on this one. Mathematically, this is a fairly simple question to answer. Behaviorally, however — actually taking action and sticking with the plan – approaching this question can be much more difficult.

Let’s assume you sat down recently and reviewed your monthly budget. During that exercise, you were happy to discover that you have a couple hundred “extra” dollars available each month. You now face the happy dilemma of deciding what to do with those dollars. Your basic options are simple, of course. You could spend it, you could save it, or you could pay off some debt.

What the experts say

As I mentioned, even seasoned financial pros disagree as to the exact approach to take when deciding between paying off debt or contributing more to retirement savings. What we all agree on, however, is the importance of having and staying with a definite plan to pay off expensive consumer debt in a timely fashion.

For example, personal finance radio personality Dave Ramsey recommends not even bothering with retirement savings at all until you first pay off all consumer and student loan debt (but it’s okay to carry a low-interest rate mortgage). Once you become debt-free, he then suggests redirecting 15% or more of your income toward retirement savings. He’s a bit of a lone ranger in that opinion though.

Almost every other personal finance expert recommends more of a balanced approach, such as:

Contributing to your employer’s retirement plan at least up to the percentage they will match.
Regularly setting aside cash into an emergency fund every pay period.
Paying off consumer and student loans, either in descending order according to interest rate or ascending order according to balance (i.e., pay off the small balances first).

Which is better?

We could spend hours standing around the water cooler debating the pros and cons of each approach (and financial planners often do). The important part is to pick a strategy – any strategy – and then stick with it. Briefly, though, let’s consider the upside and downside to these strategies, including some practical armchair psychology that might help you determine which method best fits your personal preferences.

The mathematical approach

If the purity and logic of a straight mathematical approach appeals to you, then the solution to the debt vs. savings dilemma is probably fairly clear. Do both. Here’s how:

Retirement savings

Contribute at least up to the maximum matched percentage in your employer’s retirement plan. This will capture an instant and guaranteed return on your investment, and you won’t feel as if you are missing out on a benefit by not participating. (If you prefer a side-by-side comparison, CalcXML provides an online calculator to help you compare the after-tax return on investing with the after-tax cost of debt.)

Debt pay-off

With respect to your debt payments, the strategy is also quite straightforward. Pay the minimum required monthly amount on all debts to keep them current, of course. All available additional dollars from your budget (after retirement plan and emergency fund contributions) goes to the highest interest rate debt until it is fully paid. We call this the DebtBlaster approach, and it is by far the quickest way to eliminate your debt.

However, it may not be the most satisfying from an emotional or psychological perspective. Consequently, there is the risk that you may not stick with it long enough to fully get yourself out of debt. If this could be a concern for you, read on.

The psychological approach to debt

According to research, the purely mathematical approach to paying off debt may not be the best approach for everyone. Paying off the smaller balances instead, regardless of the interest rates being charged, seems to provide greater motivation toward sticking with a debt repayment strategy. Mathematics aside, what you do or don’t do ultimately determines your success or failure. Intuitively, most of us understand that breaking up a large task into smaller bites makes it easier to accomplish.

The same is true when it comes to getting out of debt. Maybe Dave Ramsey is onto something with this approach. Consider going for the short term win and the relatively quick sense of satisfaction to fuel your motivation toward paying off all your consumer debt.

The psychological approach to retirement

The psychology behind successfully saving for retirement is a bit more complex. Unless you are far along in your career, retirement can seem far away and abstract. This adds more urgency to immediate needs and problems like getting out of debt, paying for the kids’ college, or buying a house – all goals with more immediate gratification tied to them.

Furthermore, people often struggle to fully understand how compound growth works, which leads us to underestimate how much our savings could potentially grow. Perhaps worse, our difficulty with compounding leads us to also underestimate the cost of waiting, making that option appear much too attractive and fostering procrastination.

Overcoming the barriers

An effective way to combat these psychological savings barriers is to make retirement more tangible by giving ourselves a monthly savings target. Generally speaking, if you are saving enough money from each paycheck to replace approximately 80% of your pre-retirement income once you retire, you are very likely on track with your retirement savings efforts. Use the retirement estimator calculator to see how your current savings measure up. If there is a substantial gap, the calculator can help you see how much additional you need to contribute to your retirement plan at work or to an individual retirement account or perhaps to both.

The best approach? What motivates you?

Now that you’ve examined different perspectives of the debt vs. investing issue, what do you do with this knowledge? It’s not what we know that ultimately matters, it is what we choose to do. Consider taking a best-of-the-best approach:

Contribute to your employer’s retirement plan at least up to the maximum amount they will match. Free money is free money, and nothing beats a guaranteed return on your investment.
Go for the small, quick win and pay off your smallest credit card and consumer loan balances first. That’s one less bill to pay each month and having one less bill just feels good.

With modest apologies to all of my math teachers, math just never felt quite that good. Use those good feelings of accomplishment to help motivate you to stay on track and hammer away at the next debt on your list until you kill that one too.

If you have two debts with similar balances, then focus on pouring additional dollars into the debt with the highest interest rate. Take advantage of both mathematics and psychology to help dig your way out of debt and land firmly on the path toward financial independence.

A version of this article was originally published on Forbes.

Are You Financially Ready To Retire?

March 02, 2018

The day is finally approaching. You’ve been saving and investing most of your adult life for this moment, but now you’re not so sure you’re really ready to retire. It’s a predicament faced by many employees that we work with. While retirement readiness has many non-financial components to it, here’s how you can know if you’re financially ready to retire:

1. How much income will you need? Don’t make the mistake of “guestimating” your expenses. That might be fine when you’re decades away, but you don’t want to discover that you’ve underestimated your income needs several months into retirement. Start by tracking your actual expenses over a few months and then make any adjustments you foresee to your lifestyle (like downsizing or relocating) to create a retirement budget. (You can use this calculator by AARP to estimate your health care expenses.)

2. What will you be receiving from Social Security? You can run a projection on the Social Security web site and enter the exact age you plan to collect. If you’re married, don’t forget that you and your spouse get the higher of your own benefit or a spousal benefit that’s about 1/2 the other spouse’s full Social Security benefit.

3. What other income will you be receiving? If you’re fortunate enough to qualify for a pension, get a pension estimate. Include net rental income from any real estate you own. I’d be hesitant about including income from a part-time job or business since you don’t know how long that income will last.

4. How much can you safely withdraw from your retirement savings? Add up all of your retirement savings, including retirement plans from previous jobs, your current employer’s plan, IRAs, and any other investment accounts intended for retirement. Then multiply that total by 4%, which has been found to be the historical safe inflation-adjusted withdrawal rate from a diversified portfolio over 30 years. (If your portfolio includes small cap stocks, you can increase that withdrawal rate to 4.5%.)

5. How much will you owe in taxes? Your taxes will vary based on your mix of income sources and what state you retire in. You can use this site to estimate your retirement tax liability based on those variables.

If your retirement expenses and taxes are more than your retirement income, you may want to consider reducing your retirement expenses, purchasing an immediate income annuity, taking out a reverse mortgage, or working a bit longer. Otherwise, you probably have the financial resources to retire. Here are a few steps you can take to help make sure you stay that way:

Make sure your portfolio is diversified and low cost. Keep in mind that the 4% rule was based on a diversified portfolio of market indexes. The simplest way to mimic that is with a target date retirement income fund made up of index funds since they’re designed to be fully-diversified “one stop shops” for people in or approaching retirement. If you prefer a more customized approach, consider using a low cost robo-advisor tool that can design a portfolio for you.
Consider long term care insurance. You can see your entire nest egg wiped out by long term care costs. That’s because Medicare and other health insurance policies don’t cover it. Medicaid does but it’s a poverty program that requires you to spend down virtually all of your assets to qualify and many places don’t accept Medicaid.Long term care insurance can protect your assets and your choice of care. In particular, see if your state offers a long term care partnership program. Purchasing a policy through one of these programs can protect your assets even if you use up all the insurance benefits and have to rely on Medicaid.
Have a withdrawal strategy. It’s not just how much you’re withdrawing but where you’re withdrawing from. If you’re withdrawing from pre-tax as well as tax-free (Roth) and regular investment accounts, you have the opportunity to structure your withdrawals to minimize taxes and even reduce health care costs in retirement. If your situation is complex, this is an area where a tax-aware financial advisor can be helpful.

The idea of retirement can be both exciting and terrifying. Hopefully by following these steps, you can make it more of the former and less of the latter. Are you ready?

This post was originally published on Forbes.

How To Avoid Penalties On Unpaid 401(k) Loans

March 01, 2018

One of the biggest risks to borrowing from your retirement through a 401(k) loan is the heightened likelihood of the loan becoming a taxable distribution if you leave your job (voluntarily or not) while still paying back a 401(k) loan. Because 401(k) loans are paid back via payroll deduction, when your paycheck goes away, so does the ability to repay it, so many employers require payment in full within 60 days of leaving.

New tax law provides relief

While some employers do allow you to continue to make loan payments if you leave your job, one provision of the new tax law that hasn’t gotten much attention can make a huge difference to people who find themselves in a bind with an outstanding loan and no more job. Basically if you “default” on your 401(k) loan, there is a way to still repay it, but the details matter.

What’s the big deal?

Prior to January 1, 2018, employees generally had two options to prevent the loan balance from becoming a taxable distribution if they left their employer with an outstanding loan:

Pay the loan back in full. It is rare that an employee is able or willing to go this route.
Repay the loan balance via “rollover” by contributing the amount still owed to an IRA within 60 days of leaving your job.

If you don’t pay back the loan, then any balance from a pre-tax 401(k) becomes taxable income, and if you are younger than 59 ½, you will also owe a 10% penalty for taking an early distribution from your retirement account. Since one of the advantages of taking a 401(k) loan is that it is not taxable if repaid, this can be a hard pill to swallow.

What’s changed?

The new law, which applies to distributions treated as being made after December 31, 2017, extends the rollover deadline from 60 days to the tax filing due date (including extensions) for the year in which the loan was considered defaulted. Let’s look at a couple of examples of how this works:

Example 1: You leave your job in January of 2018. You could feasibly have 20½ months to pay back the balance of your loan by depositing the amount owed into a rollover IRA. Why so long? Because you have until the filing due date of your 2018 tax return, which can be extended all the way until October, 2019. If you file in April, the payments would be due by then, so this would be a reason to extend your return (keep in mind this does NOT extend time to pay any taxes due, including if you end up NOT completing the rollover).
Example 2: You leave your job in December of 2018. You still have 10½ months (until October of 2019) to pay back the loan via contributions to your rollover IRA, but you may have to stretch a bit more financially to make it happen.

Keep in mind that even if you can’t pay it all back by the deadline, you should still pay back as much as you can to avoid those taxes and penalties.

The logistics

It’s important to note that you’ll have some paperwork to do in order for this to work. Here’s what I mean:

Let’s say you leave your job in June, while still owing $2,000 on a 401(k) loan. If you extend your tax return for that year until October, you’d have about 16 months to pay back your loan; that’s $125 per month.

Because your old job has no way to know you are paying the loan back into your rollover IRA, they will issue a 1099-R for the $2,000, showing it as a distribution to you.
The company where you have your rollover IRA will then also send you a Form 5498 showing you made $2,000 in rollover contributions to the account (make sure the deposits are recorded as a rollover and not new contributions).
If your plan is to pay the loan back via monthly deposits to your rollover IRA, it’s best to check with the IRA company first to make sure they are equipped to handle that while treating each payment as a rollover — it could be a real hassle if they code monthly deposits as new contributions, which WON’T satisfy the loan rollover rule. You may have to set up a separate savings account to collect your monthly payments, then make one lump sum rollover contribution to satisfy the loan rules.

Because it is unclear what type of documentation the IRS will require, make sure to keep all forms and communication you receive and consult your tax professional to help you reflect this process on your tax return. Keep in mind that this process could take a few back-and-forth letters with the IRS, due to the timing of when the 1099-R and Form 5498 are mailed.

To avoid any issues, if you know you are planning on leaving your job, your best bet is to not take a 401(k) loan at all. However, if you find yourself unexpectedly moving on from your current job and have an outstanding 401(k) loan, keep these new rules in mind. Your future self will thank you when it comes time to retire and your present self will thank you for saving a lot of money on taxes and penalties!

How To Shop For Long Term Care Insurance

February 26, 2018

If, after running the numbers and statistics, you’ve determined that you do indeed need to purchase long term care insurance (LTC), the next step is obviously shopping. It’s a weird wacky world of insurance out there, so I’ll try to break it down a little bit.

Check existing policies

First, you may already own long term care coverage and not realize it. If you own life insurance, and particularly a policy you bought on your own that is not part of your group life insurance at work, your life insurance might include some LTC benefits. Some life insurance policies are sold with add-ons, known as “riders,” that offer various types of living benefits you can use if you don’t die.

LTC riders

A long-term care rider, for instance, may allow you to use a portion of the life insurance policy’s death benefit to pay for costs associated with a nursing home stay. It might be time to dig up those life insurance policies and give them a good review, or call your agent for an update. If you are also considering an update to your life insurance, adding a long term care rider might be less expensive than purchasing an individual LTC policy, and you would be taking care of two risks at once with a hybrid policy.

Check at work

Another good place to start looking for LTC coverage you might not know about is within your group benefits. Some employers make long term care insurance part of their employee benefits package, and this benefit may cover the worker as well as family members. Due to the relatively large number of people insured under a group plan, you may find the LTC insurance premiums as a group participant are significantly less expensive than if you went shopping for coverage on your own. Find out if your employee policy is also portable, so you can take it with you if you change employers or retire.

Check your memberships

Professional or service organizations to which you belong may be another opportunity to purchase LTC insurance coverage at competitive rates. As with employer provided benefits, being part of a large service or professional group may entitle you to better pricing.

Individual coverage

You can purchase an individual (or couple’s) policy from a licensed insurance agent, either locally or online. Be prepared to comparison shop and obtain policy quotes from several different providers. Better still, talk to an insurance broker who is not tied to only one company and let him or her get quotes from a variety of insurance companies and do the shopping on your behalf. Check with your state insurance commissioner to confirm the agent or company you are considering is both licensed to sell LTC insurance in your state and has a trouble-free track record.

As I mentioned earlier, the task of deciding how best to handle your future long term care needs is neither pleasant nor simple. It is, however, an important part of anyone’s financial plan. Hopefully you are now more confident in how to assess your needs, weigh your priorities, do some shrewdly competitive shopping, and find the type of strategy or coverage that is just right for you.

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Tax Reform Review: Should You Switch To Roth?

February 23, 2018

You’ve probably heard by now that Congress recently enacted a significant tax cut for most of the population. Beyond adjusting for lower withholding rates is there anything else you could consider? What about whether you should be saving into a pre-tax/traditional retirement account or a Roth/after-tax?

Get out your crystal ball

Making this decision is a bit of a prognostication game. If you make pre-tax contributions in order to save money on taxes now, you are locking in the need to pay taxes later. With a Roth 401k or IRA you are accepting the fact you are paying taxes now and electing to not have to pay taxes later. Essentially the decision comes down to when you think your tax rates will be higher.

One popular way to look at this question is to compare the amount of income you generate today vs what you think your income will be in your retirement years. If your income is higher now and rates remain the same then you may assume you can save more in taxes by making the pretax contribution. Conventional wisdom used to say that this was the case for most working Americans.

Things have changed

If you were assuming you would have a lower tax bracket in retirement you may need to rethink that. This most recent tax rate change actually has an expiration date — the new rules are set to sunset by 2026. That means that without a significant legislative move we will go back to the old higher rates. And considering the state of our national debt, social security and other fiscal matters of our nation, that’s very likely to happen.

Lower income may still equal higher tax rates

If the current tax rules can sunset this could mean that even if you have a 20% reduction in income at retirement you may be paying the same or higher tax rate in retirement than you would today. For example, if your income is $100,000 today your current top tax bracket is 24%. Let’s say you retire in 10 years and you anticipate your retirement income to be $80,000. If we go back to the old tax rates as planned, that would put you in the 25% bracket. Lower income could equal higher tax rates.

Roth might make more sense than ever … for now

It doesn’t sound like much, but consider for a moment the full power of Roth. Not only does the money you put in come out tax free, but also any growth on those dollars. Locking in the taxes you pay on that money at low rates could make great sense for people who expect to maintain similar income needs in retirement as they do today, and especially for savers with a long timeline for that money to grow.

For a mid-career person like me, this law change has made the landscape easier to plan for the next few years. It’s even prompted my colleague Kelley to change her retirement contributions from half pre-tax and half Roth to all Roth, despite being in what she considers peak earning years. However, once rates go back up, I imagine she’ll be looking at pre-tax again.

Who it might not make sense for

Despite the fact that tax rates are lower than ever, paying your taxes today on retirement income by using Roth may not make sense for everyone. For example, people in the highest tax brackets may still find their tax rates lower in retirement if they are socking away much of their earnings today and plan to retire at a much lower income in the 5-figure range. It’s best to consult a tax professional or a calculator for an answer specific to your situation.

What if I make too much money for Roth

If you have access to a Roth 401(k) through work, then there’s no such thing as making too much, as income limits don’t apply to 401(k). However, it is true that Roth contributions are limited to taxpayers whose incomes are below the annual limits. There are ways to get around it, but beware potential pitfalls.

Should You Increase Your 401k Savings Due To Tax Reform?

February 22, 2018

Have you noticed a little boost in your paycheck recently? That’s probably because employers have just started updating their employees’ withholding based on the new tax law, which reduced tax brackets across the board. So what should you do with the extra money?

Should you contribute more?

It may seem like the responsible thing would be to contribute it to your 401(k). After all, if you’re like the average American, you may not be saving enough for retirement and this would be a painless way to get closer to that goal. (You can use this calculator to see how much you should be saving.) Here are a few questions you may want to ask yourself first:

Is the tax bill really saving you money?

While rates have come down, some deductions have also been reduced or eliminated, including the state and local tax deduction. If you pay high state, local or property taxes, you may actually see your taxes go up. You don’t want to find that out at tax time next year and have to borrow from your 401(k) to pay the IRS. You can use a calculator like this to estimate your tax liability under the new law and compare it to what you owed previously.

Do you have adequate emergency savings?

Even if you are saving money, your 401(k) may not be the best place for those savings. Financial planners typically recommend having enough emergency savings to cover at least 3-6 months’ worth of necessary expenses. Otherwise, you may be forced to raid that 401(k) (with possible taxes and penalties) or borrow at high-interest rates in the event of an emergency.

If you can’t bear the thought of neglecting your retirement savings for even a short period of time, consider contributing to a Roth IRA. You can withdraw the sum of your contributions at any time and for any reason without tax or penalty so it can double as your emergency fund. (If you withdraw earnings before age 59 ½, they are subject to possible taxes and penalties but the contributions come out first.)

Just be sure to keep the Roth IRA money someplace safe like a savings account or money market fund until you have enough emergency savings somewhere else. At that point, you can invest the Roth IRA money more aggressively to grow tax-free for retirement.

Do you have high-interest debt?

It probably doesn’t make sense to contribute more to your 401(k) if you have a credit card balance at 19% interest. Those 401(k) contributions would have to earn 19% after-taxes just to break even. That’s something I certainly wouldn’t count on, especially with many financial experts forecasting future returns in the low to middle single digits due to historically low interest rates and high stock valuations. For that reason, my rule of thumb is to pay off any debt with interest rates above 4-6% before investing extra money (unless you haven’t maxed your employer’s match).

Are you planning to buy a home?

If so, consider stashing the extra money in savings. You’ll need cash for the down payment, closing costs, and any furnishings and renovations you want to add. This is on top of your emergency funds, which will be even more important when you can’t call a landlord anymore for home repairs.

If you’re saving money from the tax bill, have adequate emergency savings, no high-interest debt, and aren’t looking to buy a home anytime soon, your 401(k) can get be a great place for those extra savings. Go ahead and adjust your contributions before you start getting used to the bigger paychecks. After all, many said the tax law favors the rich so the quicker you can get there, the better!

Are You Limiting Your Retirement Savings With These Misconceptions?

February 21, 2018

In case you missed it, the IRS gave retirement savers a little boost this year by increasing the limit you can contribute to a 401(k) or 403(b) to $18,500 (the catch-up contribution stays the same, so 50+ can now save a total of $24,500). However, there are a few common misconceptions about this limit I’d like to clear up:

If your job’s retirement plan allows you to pick between pre-tax/traditional contributions or after-tax/Roth, that limit is the total between the two. So if you decide to split your savings between both, you can only put a total of $18,500 between both. Also, income limits don’t apply to Roth 401(k) like they do to the Roth IRA, so higher earners, get on board!
If your employer deposits money in your account via match or other contributions, this DOES NOT AFFECT your limit — you can put $18,500 plus whatever they put in. (some companies even let people put more in above that limit, called “after-tax voluntary” to get to the total IRS limit of $55,000 for 2018)
What you put into your 401(k) doesn’t affect how much you can contribute to an outside IRA (although your income could limit your ability to fully take advantage). EVERYONE can put up to $5,500 in a pre-tax/traditional IRA ($6,500 for the 50+ crowd), although not everyone will be able to deduct that deposit from their income taxes.

If you have your contributions set to max out based on last year’s limit of $18,000, you may want to log into your account to bump up your contributions to take advantage of the additional $500 you can save this year.

Do You Really Need Long Term Care Insurance?

February 16, 2018

Long term care (LTC) insurance can be an important part of retirement planning and one that many of us postpone doing anything about because, well, it is depressing to think about. It is also a complicated insurance product. And there is the added expense, of course. Thinking about it might make you feel a little bit like Goldilocks: Too much or too little? Too early or too late? Too expensive or too cheap? Given so many convenient and seemingly built-in excuses to put off making this decision, no wonder few people are eager to tackle this part of one’s financial plan.

First of all, do you even need it?

Perhaps a good question to start with is: Do you actually need this insurance? If so, when is the best time to buy it? Purchase it too young and you spend years paying into something you very likely won’t use or sacrificing dollars that could have been spent elsewhere. Buy it too late, and it might be incredibly expensive or even unobtainable. Surely, there must be something resembling a Goldilocks type of solution to buying just the right amount of coverage at just the right time?

When to buy LTC

As with life insurance, LTC insurance premiums tend to be lower during our younger, healthier years. However, that means paying those premiums for many years during which we are statistically unlikely to need the type of care we are insuring. Most of the quoted statistics regarding nursing home care (whether provided by family members or in an actual nursing home) focus on age 65. For instance, 68% is the probability that individuals age 65 or older will begin to suffer from cognitive or physical impairment that would lead to using their long-term care insurance.

The best age to buy

Does this suggest we should all wait until our 65^th birthdays to buy LTC insurance? Unfortunately, that could be an expensive mistake. Given the odds of needing it go up quite a bit after 65, so does the cost of the insurance. Instead, the sweet spot for buying long term care insurance may lie somewhere between ages 55 and 60 for many people.

Your gender and marital status matter too

According to a 2018 price analysis, typical insurance costs for singles and marrieds can vary considerably between ages 55 and 65. Among single males, the cost increases only slightly between 55 and 60. However, after age 55, the cost begins to jump considerably for women and married couples.

The other determining factor

In addition to your age and health status, another consideration for purchasing long-term care insurance is your relative level of wealth. Generally speaking, many financial professionals suggest that those with a net worth of less than $200,000 may be better off skipping the LTC insurance altogether. The same can be said for people with a net worth in excess of $2 million or so.

People on the lower end of that spectrum likely would be able to qualify for Medicaid fairly quickly if they enter a nursing home, and those who are wealthier could self-insure (aka just pay out of pocket should the need arise), rather than pay for coverage they may never need.

You still may not need it

What if your net worth lies somewhere in between $200,000 and $2 million or more? That doesn’t suggest you rush right out and buy a LTC insurance policy, either. According to a recent study conducted by the Center for Retirement Research (CRR) at Boston College, previous assumptions about how many people actually need LTC insurance may have been significantly overstated. These new insights are based on a fresh look at how long people actually spend in nursing home care and assumptions about how Medicare (not to be confused with Medicaid) plays a role in LTC health coverage.

Don’t count out Medicare

Although it is widely assumed that Medicare will not cover nursing home costs (a “fact” some insurance sales people seem to enjoy touting), this is not entirely true. Medicare can actually pay for up to 100 days of care in a skilled nursing facility or long term care hospital following a hospital stay of at least three days. Although Medicare does not pay for care related to chronic (permanent) conditions such as dementia, it can cover a limited amount of long term care services related to conditions from which you are expected to recover (e.g., following surgery).

Consider how long your stay might be

While it is true that 44% of men and 58% of women may ever use a nursing facility, the CRR also reports that the average duration for these stays tends to be relatively short. The average stay for men is around 11 months and just under 1.5 years for women. Given the relatively short average stay and the availability of Medicare to cover what could be a significant portion of that stay, the CRR further concluded that purchasing LTC insurance actually made economic sense for only about 25% of consumers (19% of men and 31% of women).

There is more to the LTC insurance decision than the numbers, of course. Your specific financial situation, family dynamics, personal priorities, family health history, etc. all blend together to help shape your individual decision. However, it’s a good idea to consider all of the factors when deciding whether or not and when to purchase coverage.

Should You Invest More Aggressively To Retire Soon?

January 18, 2018

Are you getting close to retirement but feel like you’re behind on your retirement savings? Have you considered investing more aggressively to catch up? This is a question I’ve gotten a few times on our Financial Helpline (and is probably a sign that the market is getting closer to a peak).

Let’s take a look at the pros and cons

The main advantage is that a more aggressive portfolio is likely to perform better than a more conservative one over time. However, there’s also a risk of a significant market decline, especially when prices are as high as they are now relative to earnings. Earning a slightly higher return for a few years may not make much of a difference in your retirement readiness, but a big loss can mean having to delay retirement, withdraw less income, or face the risk of depleting your retirement savings. That’s why it’s generally recommended to be more conservative as you get closer to retirement.

The exception to the rule

However, there’s almost always an exception to every general rule. The biggest would be if you’re planning to retire early. If your aggressive investments perform well in the next few years, it can make that happen sooner. If they don’t, you can always retire a little later and probably with more assets in the long run. You can also split your investments into more moderate ones for retiring later and more aggressive ones for retiring earlier.

How I do it

For example, I’ve divided my retirement savings into “normal retirement” and “early retirement.” My normal retirement savings are moderately aggressively invested in my 401(k), HSA, and Roth IRA. I just need a modest rate of return in those accounts to reach my “normal” retirement goals.

Two timelines, two strategies

My early retirement investments are much more aggressively invested in my regular taxable accounts. If they do really well, I can retire earlier and don’t have to worry about early withdrawal penalties on that money. If they perform poorly, I can take the losses off of my taxes.

On the other hand, if I was approaching a normal retirement date and was just looking to catch up, I probably wouldn’t take that risk. Instead, I’d try to save more, reduce my retirement expenses, or consider other retirement income sources like an income annuity, a reverse mortgage, or even a part-time job or business. As always, it all depends on your situation.

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