Author Topic: Case Study: 26 yo, recently debt-free, maxing out 401k + Roth IRA, then what?  (Read 7721 times)

ATGC

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Hi MMM Forum!

I started reading the MMM blog about two years ago, with $20k in debt between student loans and credit cards. As of 2014, I'm happy to say that I am Debt Free. Every time I needed a punch in the face...I visited the blog. Anyways - now I'd like to plan for FI and wanted to reach out to the MMM community. Below are the stats:

Income
New Job as of Oct 2013: Gross $5834/month, take home ~ $4000
Part-time gig: Extra net $2600/month
TOTAL = $6600


Expenses
This budget includes helping my mom out (see below). Also, my company provides a company car (repairs, gas, and insurance) and phone, so the gas budget is for my mom.
*Health Insurance - $250
**Rent/utilities - $250
Restaurants - $200
Groceries - $200
Shopping/pets - $200
ATM/Cash - $200
Taxi - $50
Pharmacy - $50
Gas - $50
Bars - $20
Netflix/spotify - $20
EXPENSES TOTAL ~ $1500

*I pay for my mother's health insurance because she doesn't qualify for it at her part-time job. I get my health insurance from work which is deducted from my paycheck.
** We (my brother and I) also help my mother with the mortgage and utilities of her house. Mortgage and utilities (internet, gas, electricity, water, trash) come to about $1000. My brother and I take care of $500, she pays the other $500.

Assets
401(k) - $1500 (Started with my new job, put in 4% automatically because company matches 4%)
Roth IRA - $5000 (Started it when I was 19, but haven't contributed to it since 23)
Savings - $1500

Liability
My car that I don't use (?) - Paid off $23k loan, now worth maybe $5000

Question
I want to know if this is a wise plan moving forward - maxing out 401k and Roth for next couple of years and putting the rest away in a 'Stash.

Starting in  March
- Max out Roth IRA - $550/month for next 10 months
- Max out 401k - $1,750/month for next 10 months
After my expenses, I have $2800/month left...

BUT - My part time gig is scheduled to end in July, with maybe a chance of renewing for a few months longer, but I can't guarantee it. Which would mean with that plan I'd only have $200 left a month after August. That kind of scares me. Of course, I can sell that extra car and have more in savings accounts. Also, I can save everything I make from that part time gig this year and put it in the savings account so that I have a buffer for when the part time gig ends.

But then what in 2015?

I think it would be wise to continue maxing out those accounts in the following years at $2000/month until I've reached the limit MMM talks about in this post http://www.mrmoneymustache.com/2011/11/11/how-much-is-too-much-in-your-401k/. Also in 2015, I'm going after a promotion and more part time gigs.  I read a couple of posts about what some other folks my age are doing http://www.mrmoneymustache.com/forum/ask-a-mustachian/i-would-like-a-report-card/msg210810/#msg210810 and http://www.mrmoneymustache.com/forum/ask-a-mustachian/case-study-chicago-25yr-old/msg211629/#msg211629. They both either have property or talk about purchasing property. So I know home ownership is also an option, but I'm happy helping my mom out and living with her. Besides, she has no retirement, divorced, and filed for bankruptcy already so the house and car is all she has for now.

I appreciate the help and look forward to your advice/thoughts.
« Last Edit: February 13, 2014, 01:33:26 PM by ATGC »

Numbers Man

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Sounds like you have your shit together. Carry on!

golfer44

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Perhaps a rental property?

If it interests you, head on over to biggerpockets.com and browse around.

nereo

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Carry on indeed!
A few things to note: for 2014 you can contribute $5500 to your ROTH - not $5000.
I would recommend growing your savings a lot more first, before at the expense of maxing out your 401(k) (but by all means keep the 4% match).   Life throws curves and you want the savings on hand to deal with them and not raid your IRA/401(k) ... and pay their penalties.

Sounds like you are on track to be FI/FIRE in 10-15 years; unless you are going to be old enough to withdraw from your IRA/401(k) by then without penalty, you'll need something beyond retirement accounts then.  That's where your growing savings comes in. 

Family is important.  As long as the living situation is good and you are helping out your mom, stick with it.  No need to get into home ownership unless it's something you *want* to do when you are paying $250/month w/utilities *and* you are helping out a family member.
If you really don't need the car sell it, but since it's paid off there isn't a rush there.

Cheddar Stacker

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Great job so far, keep it up. 2 points based on what I read from you and others so far:

1) Don't worry about an emergency fund/savings. You don't have a house/car payment, or any other obligations. You make $5K more than you spend each month. If you lost your job, or had a sudden unexpected expense, you will have such a huge cushion it won't matter.

2) Consider Traditional IRA instead of Roth if you have any chance of getting a deduction for it. It seems like you can deduct it as long as you max out the 401K first to reduce your AGI. The tax savings are huge and they will accelerate your FI.

crk

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You could hire your mother as a household employee and then the health care payment would be tax deductible. I'm not the person to ask what exactly she would need to do at minimum to legally qualify.

ATGC

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Numbers Man: Thank you! It wasn't always that way. They say having good role models help. But I didn't grow up mustachian and I sure as heck didn't learn anything about finances in school. I had to look elsewhere - and I found MMM. :)

golfer44: Great resource. I'll use it to educate myself because I have ZERO knowledge when it comes to rental property.

nereo: Great advice. 10-15 years sounds so nice in comparison to my mom's situation. And the car was a very antimustachian decision I made in college, so I need to get rid of it as a ceremonial mustachian sacrifice. That'll give my savings a nice boost.

Cheddar Stacker: Thanks. I need to look into traditional versus roth. I was under the impression (back when I was 19...) that Roth is better because I avoid paying taxes later, when retired. But I guess it might be better to do traditional IRA since it’ll be tax deductible. I need to educate myself a bit more about this.

crk: Interesting, never thought about that!

Eric

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Starting in  March
- Max out Roth IRA - $550/month for next 10 months
- Max out 401k - $1,750/month for next 10 months
After my expenses, I have $2800/month left...

BUT - My part time gig is scheduled to end in July, with maybe a chance of renewing for a few months longer, but I can't guarantee it. Which would mean with that plan I'd only have $200 left a month after August.

Unless that 401k is a Roth 401k, you'll have a lot more than $200/mo leftover.  That extra $1750/mo is pre-tax money so you'll only lose like, what, $1300 net?

Here's a bad calculator.  There's gotta be a better one out there, but my google-fu is lacking today and I gotta get back to work.

http://www.calculator.net/take-home-pay-calculator.html

curler

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Here's a bad calculator.  There's gotta be a better one out there, but my google-fu is lacking today and I gotta get back to work.

http://www.calculator.net/take-home-pay-calculator.html

I've found http://www.paycheckcity.com/calculator/salary/ to be a pretty good paycheck calculator.

Sunflower

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I had to double check that I didn't write this post in my sleep - I'm also 26, recently debt free, and making about the same amount of money each month.

Here are just a few quick thoughts:

1. Definitely max out your 401K. All that money is put in before taxes so it lowers what you have to give to the government out of each pay check. Plus, it actually works out that pre-tax money puts you in a better position later on than having that money grow tax free. Check out http://www.madfientist.com/traditional-ira-vs-roth-ira/ for some nice graphs that illustrate this point.

2. With such a high income, you probably won't be getting any tax breaks from a traditional IRA. Also, once you pass 112K AGI, the amount you are allowed to contribute to a Roth goes down. See the IRS website for more details or poke around Vanguard's website because they tend to explain those things in plain English. I'm currently debating what to do about this - I'm about 90% sure I won't hit over 112 AGI because I'm contributing so much to my 401K and HSA but depending on how the year goes, it might be close. I'm leaning towards putting in the whole $5500 for this year in December or January so I don't have to worry about it.

3. You will have PLEANTY of money, even if you're maxing out all these retirement funds. Anything that you put into a Roth can come out with no penalty so you can think of it as an emergency fund as long as you truly only use it for emergencies (because you can't take out a loan and pay it back like with a 401K). Again, I'd suggest reading up on Roth IRAs on the vanguard website. Worst case scenario, you start feeling a little tight on cash after your part time gig ends - if that point ever comes then you can consider dropping your 401K contributions by a couple hundred a month.

4. I'm also not that into owning property right now so I'm using the next two months to build up the $3000 required for VTSAX and will be opening a taxable account with vanguard. Then, anything I have leftover each month will be shuttled into the stock market. (I keep a $4000 buffer in my bank account because it makes me feel more secure so I'm talking about anything over that amount after paying bills). I'm planning on leaving that money in the account until I retire (hopefully in ~10 years) but I can always use it in case of a true emergency. Taxes would be a little more complicated, but hey, I'm saving it all to give me options later on and one option is to pull it out earlier than originally expected.

Good luck! Check out investment series posts at http://jlcollinsnh.com/ for easy to understand help and inspiration!

Bateaux

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You are getting it done.  Maxing out the Roth and 401k great.   Once all tax deferred is exhausted, I'd index with Vanguard for low fee funds.  Time is on your side and that will smooth out the rough spots.
Maybe look into Health Care Savings Accounts.

ATGC

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Kind of embarrassing to admit but I had no idea that a traditional IRA was tax deductible. -_-; I also didn't know that you have until April to contribute to it for 2013 taxes. I can save $5500 in the next two months for 2013, and after that save $460/month for 2014 IRA contributions.


@Eric & @curler - You're both right, my math did not add up correctly. I crunched the numbers using the calculators and my take home pay with my full time job would be $2700 after 401k contributions, $460/month for IRA, $1500/month budget, leaving me with about $750/month of cushion.

@Chemistay – I wish more of my friends were mustachian…it’s a lonely journey! Congrats. My part time gig started in December 2013 and the contract ends in July, so I don’t think I’ll pass the $112k mark. Everything left over between now and then I’ll funnel into an ER fund.  It would be nice if I could extent this gig for the rest of the year because then I would just hit the $100k mark…which would be freakin’ awesome. But my full time job has promotion potential so hopefully I can hit that milestone in the next 3-4 years. http://jlcollinsnh.com/ is an awesome resource, he really breaks things down. I’ll be spending some time there. I’m curious – what do you do?

@Bateauxdriver – My company does offer a flex healthcare account, but I know nothing about what it is and how it works yet, so I'll need to read up on it.

@Dmy0013 – You’re absolutely right. I just tried to throw everything extra at the debt. In hindsight, I could have left one of the student loans alone since the rate was so low and put more money in an ER fund. But I was just so pumped to get to ZERO that I didn't even think about it. It was such a mental high when I did hit that goal. Right now, I’m not confident in my financial and rental IQ, but maxing out the 401k and IRA is something that I can wrap my mind around. But you’re right, it’s good to have a nice ‘stash, so I’m planning to save the majority of the part time gig in my ‘stash. Once that gig is gone, then I agree with the rest of the folks that my full time job pays enough to be able to offset any short term emergencies. In the meantime, I’ll read into some of the vanguard and index stock fund and probably hold out on buying property. I love the thought of owning property...it’s like a different kind of “keeping up with the Jones” – thinking that I’m missing out on awesome financial gains by having property. For now I'll wait, maybe in 5 years.

This forum is pretty awesome. Thanks a ton everyone. I’ll keep you guys posted. :)

nereo

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Kind of embarrassing to admit but I had no idea that a traditional IRA was tax deductible. -_-; I also didn't know that you have until April to contribute to it for 2013 taxes. I can save $5500 in the next two months for 2013, and after that save $460/month for 2014 IRA contributions.

This forum is pretty awesome. Thanks a ton everyone. I’ll keep you guys posted. :)

Both IRA accounts have tax advantages - just at different times.  A traditional IRA allows you to not pay taxes on that money this year by reducing your AGI.  BUT, you pay taxes on that money when you take it out (including taxes on any interest you have made).
for a ROTH IRA you get no tax benefit now (you contribute with post-tax $) but you won't pay taxes on it when you withdraw funds later.  A ROTH also comes with a bit more flexibility - you can withdraw some of your principle after 5 years, and you can use funds for education or to buy your first home.  Generally, there's less flexibility with a traditional IRA.

Generally, I'd recommend the ROTH both for it's flexibility and because when you ultimately withdraw funds you will almost certainly be in a lower tax bracket than you are right now, earning $6,000/month.

cheers
n

Fireman

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Generally, I'd recommend the ROTH both for it's flexibility and because when you ultimately withdraw funds you will almost certainly be in a lower tax bracket than you are right now, earning $6,000/month.

The OP should contribute to a Traditional IRA for the reason you outlined.  More info here.

Cromacster

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Generally, I'd recommend the ROTH both for it's flexibility and because when you ultimately withdraw funds you will almost certainly be in a lower tax bracket than you are right now, earning $6,000/month.

The OP should contribute to a Traditional IRA for the reason you outlined.  More info here.

The only problem is that he is way above the tax deductible range for a traditonal IRA.  He could use it to do a backdoor Roth conversion,   on top of his Roth IRA contributions.

nereo

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Generally, I'd recommend the ROTH both for it's flexibility and because when you ultimately withdraw funds you will almost certainly be in a lower tax bracket than you are right now, earning $6,000/month.

The OP should contribute to a Traditional IRA for the reason you outlined.  More info here.

The only problem is that he is way above the tax deductible range for a traditonal IRA.  He could use it to do a backdoor Roth conversion,   on top of his Roth IRA contributions.

yup - you said it better in fewer words.

Fireman

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Generally, I'd recommend the ROTH both for it's flexibility and because when you ultimately withdraw funds you will almost certainly be in a lower tax bracket than you are right now, earning $6,000/month.

The OP should contribute to a Traditional IRA for the reason you outlined.  More info here.

The only problem is that he is way above the tax deductible range for a traditonal IRA.  He could use it to do a backdoor Roth conversion,   on top of his Roth IRA contributions.

Whoops, totally glossed over that fact.  Even with the 401k maxed, the OP would be north of 100k gross. 

Cheddar Stacker

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Generally, I'd recommend the ROTH both for it's flexibility and because when you ultimately withdraw funds you will almost certainly be in a lower tax bracket than you are right now, earning $6,000/month.

The OP should contribute to a Traditional IRA for the reason you outlined.  More info here.

The only problem is that he is way above the tax deductible range for a traditonal IRA.  He could use it to do a backdoor Roth conversion,   on top of his Roth IRA contributions.

Whoops, totally glossed over that fact.  Even with the 401k maxed, the OP would be north of 100k gross.

While Fireman missed the AGI limits for TIRA, he was correct about the original point, which was that nereo's point here is backwards. If you will almost certainly be in a lower tax bracket when you withdraw the funds you should contrbute to a TIRA, not a Roth, if you are eligible.

fuzzhead1506

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@Bateauxdriver – My company does offer a flex healthcare account, but I know nothing about what it is and how it works yet, so I'll need to read up on it.


Be aware that a flexcare account (FSA) may get you a benefit in the current year, but the money won't have the same benefit in a HSA (health savings account - usually very compatible with High Deductible Health Plans) which is what I think Bateauxdrive was trying to advocate for.  Generally speaking, a HSA is a great way to tackle health care costs (but they may be a thing of the past?? someone else correct me if I am wrong, but I think that this particular benefit to the US citizens might soon be antiquated because of the ACA - but don't let that derail the thread)

Here is a post from Jacob over at ERE about HSA's: http://earlyretirementextreme.com/my-hdhp-hsa-and-some-comments-on-health-care.html