Retirement Investing
What is an "IRA"?
An IRA, an individual retirement account, is an investment vehicle that allows for tax-deferred investing of your money. In a typical IRA, you'll make a deposit into it each year. That is a tax-deductible deposit. That money will grow, tax-deferred, until you pull your money out of the IRA. When you pull the money out of the IRA, it's going to be taxed to you as regular income.
What is a "Roth IRA"?
A Roth IRA allows you to make after-tax contributions. The contributions you make to it are not tax-deductible, but all future growth in the Roth IRA is actually going to be tax-free.
What are the advantages of Roth IRAs?
When looking at the two main types of IRAs; the Roth IRA and the traditional IRA. The fundamental difference is the taxation coming in and how the monies are taxed coming out. With a traditional IRA, we would think that we're not paying taxes now, so we're going to have a little bit more money, in theory, to grow tax-deferred. But when that money comes out, it's going to be fully taxable as regular income, and that can be very expensive. It can push you up into the higher tax brackets when you pull that money out, and can also create AMT issues. There's a lot of downside with IRAs when you actually start pulling the money out of them. So the big advantage of the Roth is that you're not getting that tax deduction now on that smaller investment when you retire. We're assuming a much greater amount that you're going to be pulling out of that Roth is going to be tax-free growth. So not only are you getting that money tax-free, but it's also not putting other retirements at risk of being in higher tax brackets, AMT and some other potential problems you might face, with taxable incomes coming from an IRA.
When should I start investing for retirement?
You should start saving for retirement as soon as you possibly can. In reality, when you walk out of college or high school and get your first job, you should make it a practice to always save a certain percentage of your income for retirement. Just get in the habit of saving and do it from day one.
How much money do I need to retire?
To determine the amount of money - the capital that you are going to need to fund your retirement - first you need to determine how much cash flow you are going to need in retirement. You need to think about what sources of income you are going to have, whether those are going to be Social Security or a pension from a job. Whatever other incomes that you are going to need to fund your retirement, you can look at an investment portfolio and take a very basic rule of thumb: about 5% of the value of that portfolio to provide the income to you, and to keep up with inflation for a good 4 year retirement.
How should I invest if I am young and single?
Really, we're letting your goals determine how you're going to invest. I assume for most younger investors, your goals are going to be more short term goals: your goal of purchasing a new home; the goal of having some safety net as you build your career and really find your career path; four monies that you are going to invest long term. Probably in a 41K at work, you definitely want to be aggressive and think about investing in equities. For your non full incast, that's your non retirement oriented assets. You probably want to be a more conservative short term investment vehicle because those are probably what you have more media goals coming up with that money.
How should I invest if I am married with children?
If you're married with children, especially if you have young children, you're usually at that point in time in your life where it just seems like you're almost getting by month to month. There's not a lot of extra cash flow. I think it's really important that you're investing for retirement at this point. You hopefully you have a house. You may be saving to move up in a home, but you've got that one major piece taken care of. The big things you're thinking about down the road are probably going to be college funding for your children and retirement. I want to suggest that you focus on retirement first and foremost. Maximize your retirement savings before you focus on saving for your kid's education, especially if you have young children, because in 15 years you're going to be in an entirely different cash flow position relative to earned income than you are now. Many times you might have the ability just to fund college when you get there. Don't save for college at the risk of not saving for your long-term retirement goal.
How should I invest if I am close to retirement age?
If you're close to retirement age, let's make the assumption you have most of your investments in place and you're just adding still a little bit more to your investment pool. I think the biggest mistake that I see investors make is that they say 'I'm going to retire in five years, so I have a five year investment time horizon'. Well that's really incorrect. What you have is you have a time horizon until you die, if you're sixty, your time horizon's forty years you're looking for. So really, if you're approaching retirement that is not your time of how long you're going to invest to, that's just to the point that maybe you're going to change the dynamics of your portfolio. However you should still have a long term investment strategy as you're approaching retirement.
How should I invest if I am retired?
If you are retired, your biggest problem with investment is you're weighing two different factors. You're weighing the risk of short-term volatility against the long-term risk of having your investments not keep up with inflation after taxes. It's a really difficult one, but you need to have a good mix of stocks and bonds, a well diversified portfolio even in retirement. When in retirement, don't think about investing for income. Don't think about how much yield you're getting off an investment, but think of it from a total return standpoint. The total growth of your portfolio is what's going to pay for your retirement income - not just yields on bonds or dividends from stocks.
At what age do I need to shift to more conservative investments?
It's really difficult to identify a certain age when you want to change to more conservative investing. It's really a function of your goals. What's difficult is we never really know when we're going to die and we're really investing our money to provide for retirement - That being a major goal that most people have, so we need to be thinking long term with that investment. It's possible as you get older you can make more conservative investments, but you don't want to get overly conservative because a lot of people are living much longer than we had traditionally thought from back in the old days. You really want to think about a long term investment strategy which is going to keep you a little bit more aggressive than what you might traditionally have done.
Should I consider Social Security in my retirement plans and strategies?
Social Security is an interesting dilemma when it comes to planning for retirement and retirement income. I think anyone that is 50 and older is pretty safe to assume that Social Security is going to be there and provide income for them in retirement. What might change is how that Social Security income is taxed to you, but for the most part I think that it is safe to assume it is going to be there. For younger people, it becomes more and more difficult to be sure that Social Security is going to be available to you as an income source. I would think that anybody under 40 probably shouldn't consider it. Is it going to be there? I think so: if I was a betting man I would say yes, but it's hard to know for sure. There is a real crisis coming down with Social Security and what we don't know is how we as a country are going to deal with that issue.
What factors should I consider in setting my retirement goals?
In setting your retirement goals, one of the most important considerations is: how much money are you going to need for retirement? There's a lot of issues that would go into that. But it's really just your everyday cash flow needs for your life. You want to think about your health; if you're healthy, is it possible that you might have a really long life? Are there health issues in your family that might necessitate the need for some type of long-term care or protection? Also, how might you feel about charitable giving? How might you feel about your children or your grandchildren, maybe helping out with college funding for grandchildren? Do children or grandchildren maybe need help with a down payment on a home? I think you need to kind of set out an overall philosophy: here's what we need. And especially if you have extra money, what are the priorities in our lives, now that we're retired, on what we might want to do with our extra capital?
