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9 of the Best Ways to Invest for Retirement To Catch Up

Editorial Note: The content of this article is based on the author’s opinions and recommendations alone and is not intended to be a source of investment advice. It may not have not been reviewed, commissioned or otherwise endorsed by any of our network partners or the Investment company.

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Saving for retirement is the kind of important-but-not-urgent task that can easily fall by the wayside. You know you should be saving a portion of your income every month toward retirement, but with so many competing needs for your income, it can be very tough to put savings at the top of your financial to-do list.

But neglecting your retirement savings will eventually catch up with you, and it will happen when you are at your most financially vulnerable. Rather than face an underfunded retirement because you didn’t save, become an aggressive saver who makes savvy investment choices now.

Here are the steps you need to take to give yourself a well-funded retirement, even if you’re behind.

Know your savings needs

The first step to retiring well is figuring out how much you’ll need in retirement. Start by looking up how much you have saved. (Don’t panic if the answer is somewhere closer to “pocket lint” than “$1 million.”)

From there, you can start plugging your information into a variety of retirement calculators. You can find such calculators in a number of places, including the American Association of Retired Persons (AARP) and insurance company Voya. These calculators can project your individual retirement goals and show you what it will take to get there, even when you are late to the process.

In addition to calculations of how much you will need in retirement and how much you’ll have to save each month to get there, you will also need to consider your current debt obligations, your current and future cost of living, and the effects of inflation over time. All of these factors can affect your savings rate and should be incorporated into your savings plans.

5 of the best ways to save for retirement when you’re behind

To get to a secure retirement, you need to have fully funded retirement accounts. Here are five ways to beef up your 401(k), IRA or other retirement accounts, even if you’re working to catch up.

1. Max out all your contribution limits

There are three different ways you can max out your contributions. First is to make sure you are contributing enough to receive your full company match in your 401(k). Many employers offer to match 401(k) contributions up to a certain amount. For instance, your company might offer to match 50% of your contributions up to 6%. This means that if you contribute 6% of your salary to your 401(k), your company will put in 3%, giving you 9% in total contributions. Taking advantage of this kind of company match is like getting more money toward your retirement savings.

Next, do your best to ensure you are contributing the maximum according to IRS guidelines. Your 401(k) plan and your Roth or traditional IRA have specific annual contribution limits. In 2021, the employee 401(k) contribution limit is $19,500 and the IRA contribution limit is $6,000 for those under 50.

Finally, if you are over the age of 50, make sure you’re taking advantage of the catch-up contribution limits. In 2021, savers over the age of 50 may put aside an additional $6,500 into their 401(k) for an annual total of $26,000, and an additional $1,000 into their Roth or traditional IRAs for a yearly total of $7,000.

2. Minimize your fees

Just as interest compounds over time, so do fees. For instance, Vanguard has calculated that if you invest $100,000 for 25 years and earn 6% per year, you’d have $430,000 by the end of your investment term. But if there’s a 2% annual fee on your account, the fees will compound as well and you’ll end up with only $260,000. That 2% fee will eat up nearly 40% of your account value.

So what can a 401(k) account holder do to minimize fees? First, remember that your employer is required to try to keep the fees in your 401(k) reasonable. However, you can reduce your fee through a change in your holdings within your 401(k). Moving from actively managed funds to index funds or ETFs will automatically reduce your fees, as those types of investments have lower costs because they do not need to pay a fund manager.

3. Diversify

Just as you shouldn’t put all your eggs in one basket, you shouldn’t have all your retirement money in a single stock or asset class. For example, if you are solely invested in domestic automobile stocks, you would face a giant loss if American auto workers decide to go on an indefinite strike. But if domestic automobile stocks only represent a portion of your investments, then you will only see a small change in your overall investment portfolio balance in the event of an autoworker strike.

It’s much easier to diversify now than it used to be. Investing in index funds can provide you with automatic diversification because the funds are made up of a number of different asset classes. This will protect you from potential losses if any one sector has a downturn.

4. Invest for a long time horizon

The main difference between investors in their 20s and those in their 40s or 50s is the length of time available to invest. The young adult will not be retiring for 30 to 40 years, so there is sufficient time to allow compound interest to work as well as time to recover from market downturns. This is why younger investors often put their money in more aggressive stocks that offer higher potential returns at a higher level of possible risk.

But older investors should remember that they don’t have to stop investing the moment they retire. In fact, older investors can still plan on a 25- to 35-year investment horizon, because they will not need all of their money as soon as they retire. That means it’s entirely possible to invest in the higher-risk/higher-return types of investments even if you have already passed your 40th (or 50th) birthday. Just put a portion of your investments into these aggressive stocks and plan to hold off on shifting them to something more conservative until you’ve reached your 70s, 80s or beyond.

5. Delay retirement

For each year that you continue to work, you have one more year of earned income, one more year to make contributions to your retirement accounts, and one more year you can delay taking your Social Security benefits. Not only will this help you increase the size of your nest egg, it will also increase the amount of your Social Security benefits, because your benefit increases with each year you wait, up until age 70.

4 top ways to find extra money to invest

Of course, just knowing that you should be saving as much as possible for retirement doesn’t make it any easier to find the extra funds in your budget to do so. You don’t have to go searching for couch-cushion change to maximize your contributions. Here are four of the best ways to invest more.

1. Invest your extra income

You might be wondering, “What extra income?” But you could have more income than you realize.

Because of a cognitive bias known as mental accounting, you might treat things like your bonuses, tax refunds or even raises instead of income. But each of these can be funneled into your retirement accounts to help you reach your annual contribution goals.

2. Automate your savings

You can’t miss money you don’t see. Automating your savings will allow your contributions to go directly to your retirement accounts without you having to decide to move it there. (That also means it’s a little more difficult to change your mind about what to do with the money if you suddenly decide to splurge on a big purchase instead.)

3. Cut your expenses

Reducing how much you spend each month can free up what you need to maximize your contributions. Cutting back could be as simple as cooking at home more often or as complex as downsizing your home or car.

4. Generate additional income

You could always earn more money, whether by offering your services as a consultant or freelancer, getting a second job, selling off your things in preparation for downsizing, or even by renting out a room in your home.

Bottom line

It may not be easy to financially prepare for retirement if you got a late start, but it is achievable. Start by determining how much you need to save, then get busy maximizing your contributions, minimizing your fees and making savvy investment and career choices. Even if you think there’s no more wiggle room in your budget, you can find extra money to invest by changing your mindset, automating your savings, making judicious cuts and generating extra income.

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Reverse Rollover: Maximizing Your Retirement

Editorial Note: The content of this article is based on the author’s opinions and recommendations alone and is not intended to be a source of investment advice. It may not have not been reviewed, commissioned or otherwise endorsed by any of our network partners or the Investment company.

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Rolling over a 401(k) into an IRA is a common process that can help a saver maintain control of their retirement investments even when they part company with the employer providing their 401(k) plan.

Fewer people are familiar with the so-called “reverse rollover,” wherein an IRA account holder rolls over those funds into an employer-sponsored 401(k). Though less common, there are a number of reasons why a saver might want to consider it — as well as several drawbacks. Here’s what you need to know about these accounts and how reverse rollovers between them can work.

Differences between an IRA and a 401(k)

While both of these accounts offer tax-deferral benefits, there are a few important differences to be aware of when choosing either type of account. In addition, it’s important to remember that you may open and contribute to each type of account at the same time, so a rollover may be unnecessary if you are eligible for both account types.

The important differences to remember between IRAs and 401(k) accounts are their contribution limits and income limits:

  • Contribution limits: For 2021, the IRA contribution limit is $6,000 ($7,000 for those over age 50), and the 401(k) limit is $19,500 ($26,000 if over age 50). You can contribute to both a 401(k) and an IRA at the same time, so if you are able to do both, a rollover may not be necessary to increase your total contribution limit.
  • Income limits: IRAs also have a lower compensation limit for receiving the tax-deferral. Savers eligible for an employer-sponsored retirement plan receive a full tax deduction for IRA contributions if their income is less than $66,000 ($105,000 for married couples filing jointly). For 401(k) accounts, the income limit is $290,000 before savers lose the tax-deferral.

Though you can hold both accounts at the same time, you may still be interested in a reverse rollover. There are some important benefits and drawbacks that you should be aware of.

Reasons to choose a reverse rollover

  • Easier Roth conversion: The Roth IRA is funded with already-taxed dollars, which means it grows tax-free and you can take tax-free distributions in retirement. However, if you are single and make more than $140,000 or married and make more than $208,000, you cannot contribute to a Roth IRA, but you can convert a traditional IRA into a Roth. You’re required to pay taxes on any money in the account that has not already been taxed. So if you have a mix of pre- and post-tax money in your IRA, you can move the pre-tax money into a 401k before doing the Roth conversion. That will leave any post-tax contributions in the IRA available to convert into a Roth IRA without paying any more taxes at the time of conversion.
  • Bankruptcy protection: 401(k) accounts are qualified accounts under the Employee Retirement Income Security Act (ERISA) and not considered to be part of your bankruptcy estate. Until 2005, IRAs had no such protection, but the Bankruptcy Abuse Prevention and Consumer Protection Act (BAPCA) exempted a portion of IRAs from bankruptcy estates. The IRA amount exempted is currently more than $1 million.
  • Earlier access to funds: Both 401(k) accounts and IRAs have stiff tax penalties for accessing your funds prior to reaching age 59 and a half. However, a 401(k) account holder who leaves their job anytime during or after the year they turn 55 may take distributions from the 401(k) without penalty.
  • Postponed distributions: 401(k) accounts may help postpone required minimum distributions (RMDs), which are the mandated amount you must withdraw from tax-deferred retirement accounts at age 70 and a half. There is no getting around IRA RMDs, but if you are still working at age 70 and a half, you may postpone distributions from your 401(k) until you retire.
  • 401(k) loan options: In a bad financial crunch, you may be able to take a loan from your 401(k) without paying taxes on the withdrawal. You’re required to repay the loan with interest (to yourself) within five years, and if you separate from your employer before you have paid back the loan, it’s considered a distribution, triggering taxes and penalties.

Reverse rollover downsides

  • Fewer investment options: 401(k) plans offer fewer investment options than IRAs, so anyone who wants to hand-pick their investments would be happier sticking with an IRA.
  • Access for higher education and home purchase: While both IRAs and 401(k) accounts allow you to take early, taxable distributions without penalty because of hardship such as disability, medical, or funeral expenses, only IRAs allow such an early, penalty-free (but taxable) distribution for higher education or a first-time home purchase.
  • Indirect rollovers can cost you: With an indirect rollover, your IRA cuts a check for you to deposit into your 401(k). However, your IRA administrator is required to withhold 20% of your distribution for federal taxes. For instance, if you’re rolling over $25,000, you will receive a check for $20,000 and the remaining $5,000 will be sent to the IRS. But you will still be required to deposit the full $25,000 in your 401(k) or face the tax penalty.

How to roll over an IRA into a 401(k)

Start by making sure that your 401(k) plan will accept a rollover from your IRA, since not all plans do. Get your 401(k) set up before you initiate the rollover because you only have 60 days to get the money from one account to the other without a penalty.

Ask your 401(k) plan administrator how to do a direct transfer, where your IRA administrator makes the payment to your 401(k) and you face no tax or penalty. If the money comes to you first in an indirect rollover, 20% of the amount is withheld and you must make up the difference.

Bottom line

Rolling over an IRA into a 401(k) can provide you with a higher contribution and income limit for tax-deferrals, more control over when you take your distributions, an opportunity for an easier Roth conversion, and more financial protection if you face serious money troubles. But it can also limit your investment choices, make it harder to pay for education or a home, and can be costly in the case of an indirect rollover. Savers interested in a rollover IRA to 401(k) must understand all of the ramifications before they commit.

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What’s the Best Age to Open a Roth IRA?

Editorial Note: The content of this article is based on the author’s opinions and recommendations alone and is not intended to be a source of investment advice. It may not have not been reviewed, commissioned or otherwise endorsed by any of our network partners or the Investment company.

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The Roth IRA is often touted as a great savings vehicle for younger investors. Since the money you put into a Roth IRA has already been taxed, young investors can put money aside while their income (and tax burden) is lower, then reap the benefits in the form of tax-free withdrawals in retirement. But there is no age limit on Roth IRAs: You are allowed to contribute to a Roth IRA at any age as long as they are still earning income.

How old do you have to be to open a Roth IRA?

As a tax-advantaged investment vehicle, Roth IRAs have some strict eligibility rules. But unlike traditional IRAs, there are fewer age-related eligibility rules for Roth IRAs.

For instance, traditional IRA account holders must begin taking required minimum distributions (RMDs) as of age 72, while Roth IRAs have no such distribution requirement and you may leave money in a Roth account for as long as you live.

One age-related rule that both Roth and traditional IRAs share is the age at which account holders may begin making withdrawals without facing a penalty. In both cases, that age is 59 and a half. Until you reach that magic number, both Roth and traditional IRA distributions will be subject to the 10% tax penalty. In addition, you cannot take a penalty-free distribution from your Roth IRA earnings if it has been less than five years since you opened it.

No matter your age, as long as you have earned income, you can open a Roth IRA. However, your total modified adjusted gross income (MAGI) will help determine how much you can set aside in your Roth IRA. In 2021, the contribution limit for both traditional and Roth IRAs is $6,000, rising to $7,000 for filers who are age 50 or over. It’s important to remember that this contribution limit is applied to all of your IRA accounts if you have more than one. This means your total contributions to all of your traditional and Roth IRAs cannot be more than $6,000.

Taxpayers who are married filing jointly can contribute up to the maximum amount to their Roth or traditional IRA if their MAGI is below $198,000. A married couple can contribute a reduced amount if their MAGI falls between $198,000 and $208,000, and couples earning more than $208,000 may not contribute to a Roth IRA in 2021. Single filers are eligible for a full contribution up to a MAGI of $125,000, a reduced contribution between $125,000 and $140,000, and may not make a contribution with a MAGI above $140,000.

Basically, as long as you make at least $6,000 and make no more than the MAGI limits for your filing status, you can contribute the full amount to your Roth IRA, no matter your age.

Roth IRA benefits for young contributors

  • Pay taxes at a lower level: Provided you wait until age 59 and a half (and own the Roth IRA for at least 5 years before making a distribution), you can access the money in your Roth IRA tax-free. This means a younger contributor could pay a lower amount in taxes on that money, since their tax bracket is likely to be lower now than it will be later in their career or even in retirement. In addition, since it’s impossible to know exactly what kind of tax burden you will be facing in retirement, having money in a tax-free vehicle provides you with a hedge against future taxes.
  • Compound interest: In addition to your distributions being tax-free in retirement, your contributions grow tax-free, which means you get to enjoy all of the gains from your investment in retirement instead of having to see some of those gains lost to taxes. The other benefit of compound interest is the fact that it can make even modest early contributions grow to something quite robust.
  • Future income hedge: If you expect to eventually make too much money to contribute to an IRA, investing in a Roth IRA early in your career can guarantee you the benefit of compound interest and tax-free growth even after you stop being eligible to contribute.
  • Access your contributions tax-free: While you would have to pay taxes and penalties on withdrawals from your gains in a Roth IRA, the amount that you contributed can be withdrawn tax- and penalty-free, because that money has already been taxed. This makes the Roth IRA a much more flexible account than other tax-advantaged retirement accounts.

Roth IRA benefits for older contributors

  • Diversify your retirement income Social Security benefits, pension benefits and withdrawals from traditional IRAs and 401(k)s are all subject to taxation in retirement. In fact, the amount of taxes you will owe on your Social Security benefits depends in part on how much income you have from your pension, traditional IRA or 401(k). By having a Roth IRA set up so that you have a source of tax-free income in retirement, you can give yourself a little more control over your tax burden.
  • Estate planning: Since you are not required to take distributions from your Roth IRA as of age 70 and a half, you can use your Roth IRA as a method of passing money along to your heirs tax-free. By naming your heir as a beneficiary of your Roth account, the money could pass to your heir without being subject to estate taxes. Do note that inherited IRAs are subject to required minimum distributions, even in the case of Roth IRAs.
  • Compound interest is still your friend: Because you are not required to take required minimum distributions as of age 70 and a half, older Roth IRA contributors can get the benefit of compound interest in ways that they could not with a traditional IRA. Even if you do not open a Roth IRA until after age 40, 50, or later, you can leave the money in the account for as long as you like, potentially giving it decades to grow before you access it. A traditional IRA puts a cap on that potential for growth by forcing you to take RMDs as of age 70 and a half.
  • Backdoor Roth conversions can open up your eligibility: Even if you make more than the income limit for contributions, it is possible to convert your traditional IRA into a Roth account using what’s called a “backdoor Roth conversion.” Before you convert your entire traditional IRA, don’t forget that you’ll owe taxes on any pre-tax money and growth that gets transferred to your Roth IRA.
  • Catch-up contribution limits: Investors over the age of 50 may contribute a full $1,000 more per year than those under the half-century mark. This means an older Roth IRA contributor can set aside $7,000 in 2021.

The bottom line

There’s no one right time to open up a Roth IRA. Whether you are a fresh-faced recent college grad or the grizzled veteran at your workplace, you can benefit from a Roth IRA. Just make sure you understand the potential advantages and disadvantages of setting aside already-taxed money into a Roth IRA.

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