Which Retirement Account is Right For You?
So, you’ve decided it’s time to start saving for future-you and want to open a retirement account.
Let me be the first (or second as I’m sure you’ve told your mom) to congratulate you. You’re making quite the fiscally fabulous decision!
Saving for future-you is the 1st step in my S-H-O-P strategy. Learn why I want you to S-H-O-P every time you get paid.
Unfortunately, you may experience decision-making overwhelm trying to decipher the alphabet soup of your retirement saving options.
If choosing which type of retirement account to invest in was as easy as:
- Picking our favorite contestant on The Bachelor
- Deciding where to go for bottomless mimosa brunch
- Choosing which dress to wear to our friend’s wedding (style tip: not the white one)…
Posts like this wouldn’t be needed and America’s saving statistics would be much more encouraging.
Not sure if you’re on track? I share my golden rule to help you estimate your future investment returns here.
My fashion-forward guide below will help you choose which retirement saving option will be the most flattering on your financial figure.
- This account is the easiest to get started with. Your contributions are taken directly out of your paycheck — before you can even miss them.
- Maximum deferred savings. As of 2019, you can defer up to $19,000 from your earnings into this account, which is significantly more than the other options we will discuss today.
- Your employer may offer a “match.” This means they will contribute up to a certain percentage or dollar amount of the contributions you make into the plan. AKA: Free money.
- Set it and forget it. If you want to take a more “hands-off” approach to managing your investments in this account, many plans offer target-date funds and balanced mutual funds.
- Delayed eligibility. When you start a new job, you may not be eligible to contribute to a 401(k) plan right away. Some employers require you to work there at least 1 year before you can start saving — which is 1 year of potential investment returns you’ll miss out on.
- Investment options are limited. Most employer retirement plans only give you 20–30 investments to choose from for your account, preventing you from taking advantage of the full investment universe.
- Taxed in retirement. When you take these funds out one day in retirement, they will be subject to income tax (unless there’s a ROTH option…up next).
Even if you don’t “max out” your contributions into your 401(k), I highly recommend at least contributing up to your employer’s match.
In case you missed it:
Named after the senator who helped write it into law (I thought it was an acronym at first, didn’t you?), a ROTH IRA is an account that allows you to invest your post-tax earnings and, in retirement, withdrawal these funds tax-free.
- Tax-free withdrawals. Funds from ROTH IRAs can be withdrawn in retirement tax-free.
- Tax advantages. This is advantageous if you expect to have a higher income and, by default, be in a higher tax bracket in retirement.
- Tax deferred savings. If you are not affected by the IRS income limits, you can contribute up to $6,000 (add an additional $1,000 if you are over 50).
- No forced withdrawals. Unlike the Traditional IRA, you will not have to start withdrawing from a ROTH at age 70 1/2 if you don’t want to.
- Additional savings. You can contribute to a ROTH IRA in addition to contributing to your 401(k).
- Abundant options. You have almost the entire investment universe to choose from when investing in a ROTH IRA.
- Lower contribution limits. You can only contribute up to $6,000 every year, significantly less than a 401(k) or 403(b).
- Income limits. If you make too much money, the IRS will limit or completely eliminate your ability to contribute to a ROTH. Rude.
- Early withdrawal penalties. If you need to access these funds before you turn 59 1/2, the IRS will tack on a 10% penalty to your distribution (with some exceptions). So unfashionable.
- No “set it and forget it” feature. Making investment decisions will require you to be more hands-on (at least at first).
The Traditional IRA is very similar to the ROTH IRA — which is why they create a bit of confusion!
The main difference is how each account is taxed (IRS — I see you, trying to complicate things as per usual).
- Tax deductible. While contributions into your Traditional IRA are most likely coming from your post-tax earnings, you can deduct the amount you contribute each year from your taxable income.
- Tax deferred savings. As of 2019, you can contribute up to $6,000 (add an extra $1,000 if you are over 50).
- No income limits. Unlike a ROTH, there are no income limitations your contributions into a Traditional IRA. So make that money, fashionistas.
- Additional savings. You can contribute to an IRA alongside contributing to your 401(k).
- Abundant options. You have access to almost the entire investment universe to choose from when creating your portfolio.
- Taxes in retirement. While you can deduct your contributions into a Traditional IRA today, you will have to pay income tax on them in retirement.
- Lower contribution limits. You can only contribute $6,000 per year, which is significantly less than your 401(k) plan.
- Required Minimum Distributions. Once you turn 70 1/2, the IRS will force you to start withdrawing from your IRA — and threaten you with steep penalties if you don’t. *Rolls eyes*
- Early withdrawal penalties. If you need to access these funds before you turn 59 1/2, the IRS will tack on a 10% penalty to your distribution (with some exceptions, see above.)
Own your own business? Fear not, fashionista. Your options for tax-advantaged future-you savings are abundant.
While I am saving an in-depth look at these options for a future post, here is a list of the most common saving strategies for business owners and their employees:
This list is no way comprehensive — think of it as a sneak peek of what’s to come from your favorite designer’s upcoming collection. Stay tuned!
As with most financial advice, there is no “one size fits all” solution. One type of retirement account is no better than the other — just different!
What’s most important is that you determine the options that are the best fit for you and your goals.
I hope you find this guide helpful as you explore your future-you savings options! Which retirement account are you leaning towards?
Need help choosing the right plan for you? Shoot me a note and let’s brainstorm!