People make all sorts of New Year’s resolutions about improving our lives in the coming 12 months. Some people want to lose weight, others want to get organized or learn a foreign language.
Many also make New Year’s resolutions to start retirement investing. Is that on your to-do list?
If it’s not, reconsider. You know, like we all know, eventually the paychecks will stop. We’ll reach an age in which we either can’t work – or we just don’t want to work any longer.
But too many people are not prepared for that day. There’s a $6 trillion retirement gap in this country. The retirement gap is the difference between what working-age people should be saving for their retirement and what they actually are saving.
This year, make it a priority to get ahead of the game. Don’t fall on the wrong side of the retirement gap. Here are some ways you can make sure you’ll stick to your retirement investing resolution.
Keep Your Retirement Investments in the Right Vehicles
Have you ever heard the expression, “Location, location, location?”
Most people use that line to describe choosing a house. But when it comes to retirement investing, location also matters.
Does your company offer access to a 401k plan (or a similar plan like a 403b)? If so, consider using this vehicle as the location of your retirement investing. 401k contributions are tax-deductible, meaning that you can subtract the amount you contribute from your taxable income.
In other words: If you earned $80,000 and you contribute $5,000 to your 401k, you’re taxed as though you earned $75,000. (That’s a very simplified example, told for the sake of illustration, and it ignores all other deductions, including your standard deduction.)
The maximum annual individual contribution for a 401k is $17,500 in the year 2014 if you’re age 49 or under. If you’re 50 or older, you can contribute an additional $5,500 into your 401k, for a total of $23,000.
Additionally, you have the option of contributing to a traditional IRA account up to a maximum of $5,500 if you’re 49 or under. If you’re 50 or older, you can contribute an additional $1,000.
Between the 401k and the Traditional IRA, you could deduct $23,000 from your taxes every year if you’re 49 or under, or $29,500 if you’re 50 or older.
| Account | 49 and Under | 50 and Older |
|---|---|---|
| 401k | $17500 | $23000 |
| Trad IRA | $5500 | $6500 |
| Roth IRA | $5500 | $6500 |
The other commonly-used retirement vehicle, the Roth IRA, is not tax-deductible in the same way as the traditional IRA or the 401k. You still pay taxes on your Roth IRA contribution. But when you start withdrawing income from it after you turn 70, those withdrawals will be tax-exempt. In other words, you’ll pay taxes now in order to avoid paying taxes later.
The choice between a traditional or a Roth IRA depends on a number of factors relevant to your own specific circumstances, so give it some thought before you make a location choice.
The other thing you want to optimize with regard to your retirement investing location is your employer’s 401(k) matching level. Matching is essentially a free gift: If the matching level is 5%, then your employer will match you up to that 5%, at no economic cost to you. It’s a guaranteed “return,” so to speak, on your money.
Optimize Your Asset Allocation
What’s the most important decision you can make about your retirement portfolio? Arguably, it’s your asset allocation.
“Asset allocation” is the slicing of your total retirement portfolio into different types of investments, such as stocks, bonds and commodities. Each “slice” is an individual asset class with certain characteristics regarding potential expected returns, the level of risk or volatility around those returns, and the level of correlation with other asset classes.
If you are young and retirement is still decades away, then your goal is going to be growth. If retirement is just around the corner then income considerations take precedence.
Your asset allocation pie should reflect your retirement timeline, with bigger slices of the pie going to growth-oriented equities and similar asset classes when you’re young, and income-oriented investments like preferred stocks and bonds taking up a larger share when you’re closer to retirement.
But that said, people within the same age range are not one-size-fits-all. Your timeline isn’t the only factor that will influence your diversification choices.
Other personal factors, like your risk tolerance and your goals, will also play an important role in determining how you “slice the pie.” Online tools like Jemstep’s Portfolio Manager weigh all of these personal factors and gives you custom-tailored asset allocation advice. It also considers the fees and costs of various funds before it issues specific buy-and-sell recommendations.
Watch Your Retirement Investing Costs
When you’re investing for retirement – or any goal for that matter – keep a close eye on your costs. Every dollar that goes to someone else is a dollar that’s not working towards a better retirement for you.
You want to buy funds with competitive management fees relative to other similar funds. Watch out for sales loads, early redemption fees and other items buried away in the fine print.
Investment funds are not like watches or jewelry: you don’t get better quality just because you’re paying more.
There’s no time like now to start taking active control of your retirement investing. The sooner you start and the more you invest, the more your money will be able to compound over time and put you in a better position for a prosperous retirement.
Do you have a retirement investing resolution for the New Year? Tell us what you think.
For insights and practical tools to make smart financial decisions at New Year’s and throughout the year, visit Jemstep.com and sign up for Portfolio Manager. A basic account is free.