Retirement planning is important but often neglected…
in the earlier stages of our lives. We often look at retirement as a need and not a want, despite its necessity in our lives. Retirement is often overlooked due to its complicated nature and the penalties governing early withdrawals.
There are many options to consider when selecting the right retirement plan and there are many drawbacks that one must be aware of. Let’s take a moment and learn about the different plans in brief.
401K: The most popular choice in retirement and in most cases the best one, the 401K is usually administered through your employer and is the most common retirement savings vehicle. You can contribute a set amount from each of your pay checks pre-tax and often get a match from your company up to a certain percentage. The money then gets invested in mutual funds and stocks that you can actually choose, but no worries even rookies can simply pick from a conservative, moderate or aggressive portfolio without hand picking their stocks. The 401K is smart because you pay fewer taxes on your earned income because of it, and usually get the contribution match which helps you grow your funds much faster than another conventional bank product. Keep in mind that 401K are not FDIC insured and that you could lose some of your money.
IRA: Individual Retirement Accounts also known as IRA comes in two shapes and forms. The ROTH IRA and the Traditional IRA, both are good but only one will benefit you. Both IRA serve the same purpose but both have different laws that govern how the taxes and disbursements are calculated. Choose wisely as penalties might be severe if you decide to change later on.
The ROTH IRA is usually geared towards most people as it offers much more flexibility, tax free earnings, no age restrictions and distribution is not mandatory after a certain age.
The Traditional IRA on the other hand is for folks that make a bit more money (over $100,000) and would like tax deferred earnings and a potential tax deduction on their yearly taxes for their contribution. There is an age limit for contributions 70 ½ and withdrawals must occur after contributions can no longer be made. Both IRAs are great and can be set up as a savings vehicle or term CD but are all FDIC insured, which provides peace of mind.
Annuities: Similar to the 401K, annuities are like mutual funds purchased for the sake of retirement. There are so many different types of annuities and laws that govern each that it would make it difficult to educate you on all of them. Instead, we will look at what some great features are and why you may want to consider them. Unlike the 401K, Annuities will not give you a match or some added contribution but they will earn you a higher rate of return, make sure to attain one with a guaranteed min cap on your return. In other words you guarantee a rate of 4% and then if the market does better you earn better, if not you earn that minimum. The advantage of Annuities is that there are many without withdrawal penalties, IRS penalties may still apply but the actual insurance companies that guarantee them don’t if you keep them at least 3 years. It is a great tool if you are in your late 30’s to mid 50’s and is in most cases very safe and rewarding. I would not recommend annuities to someone under 30.
Now that we’ve discussed your three options, let’s look at how much you should invest and in which product. The first contribution you want to make is to your 401K, as it offers a match. Find out the total percentage they will match and contribute that amount first, then based on your age diversify between your annuities or IRA accounts. The most you will find most companies match is 5-8% of your pay, and then you are on your own. If you contribute the maximum, allocate the rest of your income to give you no more than a 10% total contribution if you are under 35 and 20% if you are over 35. Only contribute what makes you comfortable, do not go overboard and go in debt as you tie up too much money in something that will penalize your withdrawals.