The Money Mustache Community
Learning, Sharing, and Teaching => Ask a Mustachian => Topic started by: hirodotp on March 06, 2016, 04:23:10 PM
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Hello Mustachians,
First let me apologize for the length of this post.
Second, and in a nutshell, I would like feedback/recommendations on my plan to start investing toward specific goals.
Near-term Goals
- Immediate safety net for my family.
- Emergency fund.
Mid-term Goals
Long-term Goals
- Retirement for wife and myself
- Partial college expenses for 2 children.
- Large expense fund
Quick Background
My wife and I are in our early 30's with 1 income stream. We have a good understanding of where our finances go through budgeting for a number of years now. We have an idea of how much free money each month we have to work with. I have a 3 year old 401k that provides a full match at 6% (I am investing 6% to get my full match). My credit is recovering from bad financial decisions in my early 20's. We do not have any credit cards at this time.
My Idea
1. Immediate Safety Net
Normally I think people would have a credit card or two to fall back on, but since we do not have that as an option right now, I want to have 1 month of immediate living expenses available in a Savings account that we can access in a pinch. I understand this will need to be supplemented due to inflation if we keep it for an extended period of time, but the hope is once my credit history is back on track (~ 2019 to be 100%; a lot clearing up this year), we can open a low interest credit card or two and replace our safety net with credit cards. We will use the 1 month of living expenses to jump start our emergency savings fund.
2. Emergency Fund
This is for more impacting events such as job loss, etc. We would like to have 5 months of living expenses in this fund at all times. This would be invested since we wouldn't need the funds same day. After researching and reading a lot, I think I've decided on using Betterment to handle my investing goals. From what I'm reading, I will want to have about a 30% buffer on top of my 5 months of living expenses to account for market fluctuation.
3. Home Down Payment
We are renting right now, and I know how much money we are throwing away doing this. We are not in a position to purchase until at least 2019, so while this is an near-term goal, it is lower priority.
4. Retirement
As of now I'm investing about 13,600 a year after company match into a 401k. This is our only source of retirement income at this time.
5. Partial College Expenses
We expect our children to help pay for their education, but we do want to be able to help out in some form. This is a long term goal as they are both under 2 years old at this time.
6. Large Expense Fund
This is something that I am not sure if we actually need or not. This would cover expenses such as a family vacation, car purchase, etc. This way we are not paying out of pocket. This in my opinion should be the lower priority of all the other goals.
My Questions
- Am I missing any goals that are normally considered?
- Does my prioritization of goals make sense?
- RIght now all extra money is going into an immediate safety net. Once we reach 1 month of living expenses, we will start working on the Emergency Fund goal (and only that goal). Does this make sense to do it this way?
- Once our emergency fund is at 5 months of living expenses, should we then start investing our income to multiple goals (remaining near/mid/long term)? If so, how do I determine a distribution of funds between the goals?
- In regards to the retirement goal, How much should I be investing in my 401k and should I invest in a Roth IRA as well at some point? If so, what is a realistic distribution of funds between the two (percentage of income wise)?
- And for my final question, what questions am I not asking that I need to ask?
Thank you very much for taking the time to read and respond to this post. We are just starting to get my head wrapped around investing (and feeling comfortable with it).
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See the "usual advice" below. Current 10-year Treasury note yield is ~1.9%. Also, "Max..." means "contribute up to the maximum allowed for..., subject to your ability to pay day-to-day expenses." It is up to you whether to consider "saving for a house down payment" as a "day to day expense", vs. lumping the down payment savings in with "taxable investments" at the end.
You may not be "throwing away" as much on rent as you think. See http://jlcollinsnh.com/2012/02/23/rent-v-owning-your-home-opportunity-cost-and-running-some-numbers/ for some thoughts.
In the lists below, thinking "first your 457 (if you have one), then your 401k and/or 403b" wherever "401k" appears is likely correct -
unless your 457 fund options are significantly worse than those in the 401k/403b.
Differences of a few tenths of a percent are not important when applicable for only a few years (in other words, these are guidelines not rules).
WHAT
0. Establish an emergency fund to your satisfaction
1. Contribute to 401k up to any company match
2. Pay off any debts with interest rates ~5% or more above the 10-year Treasury note yield.
3. Max HSA
4. Max Traditional IRA or Roth (or backdoor Roth) based on income level
5. Max 401k (if 401k fees are lower than available in an IRA, or if you need the 401k deduction to be eligible for a tIRA, swap #4 and #5)
6. Fund mega backdoor Roth if applicable
7. Pay off any debts with interest rates ~3% or more above the 10-year Treasury note yield.
8. Invest in a taxable account with any extra.
WHY
0. Give yourself at least enough buffer to avoid worries about bouncing checks
1. Company match rates are likely the highest percent return you can get on your money
2. When the guaranteed return is this high, take it.
3. HSA funds are totally tax free when used for medical expenses, making the HSA better than either traditional or Roth IRAs.
4. Rule of thumb: traditional if current marginal rate is 25% or higher; Roth if 10% or lower; flip a coin in between (or see
http://forum.mrmoneymustache.com/investor-alley/deciding-between-roth-and-traditional-ira-based-on-marginal-tax-rate/
if you want even more details on that topic). See also
https://www.bogleheads.org/forum/viewtopic.php?f=2&t=182081,
http://forum.mrmoneymustache.com/ask-a-mustachian/case-study-overwhelming-student-loan-debt-how-would-you-get-started/msg868845/#msg868845
and other posts in that thread about exceptions to the rule.
5. See #4 for choice of traditional or Roth for 401k
6. Applicability depends on the rules for the specific 401k
7. Again, take the risk-free return if high enough
8. Because earnings, even if taxed, are beneficial
The emergency fund is your "no risk" money. You might consider one of these online banks: http://www.magnifymoney.com/blog/earning-interest/best-online-savings-accounts275921001
If your 401k options are poor (i.e., high fund fees) you can check
http://forum.mrmoneymustache.com/investor-alley/to-401k-or-not-to-401k-that-is-the-question-43459/
for some thoughts on "how high is too high?"
Priorities above apply when income is primarily through W-2 earnings. For those running their own businesses (e.g., rental property owner, small business owner, etc.),
putting money into that business might come somewhere before, in parallel with, or after step 5.