Author Topic: MMM's "How to Start" Investment Guide?  (Read 6323 times)

Daffy

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MMM's "How to Start" Investment Guide?
« on: January 13, 2015, 01:19:57 PM »
I want to make sure we are investing in the right order.

My wife is starting her career in software development and I will be finishing my computer science degree in a few months. At that point we'll both be working full-time. She's making $63,000 and we'll assume I will make the same, plus some freelance work I do.

Annual combined income: $130,000
Annual combined expenses: $40,000

We want to save and invest as much as we can. At least 50% of our income.

As for the order of investments, popular financial author Dave Ramsey recommends:

1. Contribute up to the maximum percentage of company match for the 401k
2. Fully fund a Roth IRA ($5,500 yearly limit)
3. Use the rest of your money to go into your 401k

Would MMM or this lovely community ;) recommend the same order of investment options?

My wife's company will match 50% of her contributions, up to a total of 4% of her salary (around $2,500). So we're definitely planning on maxing that out.

I know that MMM recommends index fund investing, such as through Vanguard's "Target Age" retirement funds. I actually already have some money in that from a previous job. But I'm mainly interested in knowing the optimal order.

Thanks a ton!
« Last Edit: January 18, 2015, 08:53:58 PM by Daffy »

Philociraptor

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Re: MMM's "How to Start" Investment Guide?
« Reply #1 on: January 13, 2015, 01:33:03 PM »
Order is correct, though I would consider Traditional IRA instead of Roth to save on taxes. The deduction phase-out begins at $98k, but you can get your MAGI down to $94k ($18k x 2) just by filling out both 401(k)'s.

Daffy

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Re: MMM's "How to Start" Investment Guide?
« Reply #2 on: January 13, 2015, 01:39:23 PM »
Order is correct, though I would consider Traditional IRA instead of Roth to save on taxes.
Is this because of our income level? The general advice I've been told is that Roth IRAs are almost always better for younger investors who plan to increase their income as they age.

Thanks for the response. I'll definitely read up more on Traditional versus Roth.

Philociraptor

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Re: MMM's "How to Start" Investment Guide?
« Reply #3 on: January 13, 2015, 01:43:06 PM »
Order is correct, though I would consider Traditional IRA instead of Roth to save on taxes.
Is this because of our income level? The general advice I've been told is that Roth IRAs are almost always better for younger investors who plan to increase their income as they age.

Thanks for the response. I'll definitely read up more on Traditional versus Roth.

Do you plan on retiring early? If so, there may be years where you have low payroll income and can convert some of your rollover IRA's into a Roth, paying taxes at that very low level. See here and here.

boarder42

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Re: MMM's "How to Start" Investment Guide?
« Reply #4 on: January 13, 2015, 01:44:26 PM »
you cant do a trad IRA your income is far too high.  your income level is already high enough it would benefit from fully funding a trad 401k first then funding you Roth IRAs.  with 90k i would

36k into 401ks
11k into Roth IRA
6650 into HSA assuming youre on an HDHP.
the rest put into a Vanguard taxable account

Mother Fussbudget

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Re: MMM's "How to Start" Investment Guide?
« Reply #5 on: January 13, 2015, 01:53:12 PM »
The order sounds correct, but as a mustachian who's 'over 39', I'd recommend maxing out your 401K contribution from the very start of your career.  In 10 years, you'll thank yourself.   

Also, setup a Vanguard account where you'll keep your Roth IRA (or IRA).  Start a taxable account there as well. 

As for asset allocation, you'll get as many opinions here are there are contributors.   MMM recommends VTSAX -  the Vanguard Total Stock Index Fund, Admiral Shares - as the main set-it-and-forget-it investment vehicle - (FYI:  this one requires a $10,000 initial investment).  You should also consider investing in a REIT fund and a bond  fund: 
Vanguard Total Stock Index Fund, Admiral Shares (~80%)
Vanguard REIT Index Fund Investor Shares (~10%)
Vanguard Total Bond Market II Index Fund Investor Shares (~10%)

Most of all - KEEP SAVING, and good luck.

Cromacster

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Re: MMM's "How to Start" Investment Guide?
« Reply #6 on: January 13, 2015, 02:02:42 PM »
you cant do a trad IRA your income is far too high.

This is wrong.  Without even maxing the 401k, they can get their MAGI in order to qualify for the full traditional IRA deduction.

OP, I am in about the same situation as you. Income, age, married etc.  Personally, I choose to go traditional at the moment in order to reduce my tax burden.  But I do have a fairly sizeable amount already in my Roth (about 60k between wife and I).

As far as the order, that's basically right.

Standard advice around here is
1) Estimate how much you will be spending in retirement and what sources this income will be coming from.  Then to the best of your ability estimate your tax bracket in retirement.
2) If you are currently in the 25% bracket, its probably better to go with the traditional.  If you are in the 15% bracket or lower, its generally better to go with the Roth.

Basically you are shooting for the lowest tax burden today.  Some people choose to diversify their tax burden between 401k/IRA and Roths.  So there is definitely varied opinions on which route to go.  Something for you to decide.

4alpacas

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Re: MMM's "How to Start" Investment Guide?
« Reply #7 on: January 13, 2015, 02:10:02 PM »
When I was your age, I also was also told to invest in a Roth.  I did.  Now I'm forced to do a backdoor Roth (and megabackdoor roth) due to income restrictions.  If I were in your shoes, I would go with the traditional IRA.  I found the MadFIenst's blog very helpful

http://www.madfientist.com/retire-even-earlier/
http://www.madfientist.com/traditional-ira-vs-roth-ira/

boarder42

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Re: MMM's "How to Start" Investment Guide?
« Reply #8 on: January 13, 2015, 02:12:10 PM »
you're right they can do Trad.  IRA.  but as his work is freelance i wouldnt contribute to an IRA until i know where i ended up for the year

surfhb

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Re: MMM's "How to Start" Investment Guide?
« Reply #9 on: January 13, 2015, 02:20:42 PM »
....and ignore Dave Ramsey's investment advice.   Stick with low cost index funds.    Ever wonder why DL never preaches passive investing?   Because he makes millions off his partners :)

He's great for folks who are in debt though :)

Do a search on "Boglehead Wki" and read it over and over and over till it sinks in

Daffy

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Re: MMM's "How to Start" Investment Guide?
« Reply #10 on: January 14, 2015, 03:00:40 PM »
Do you plan on retiring early? If so, there may be years where you have low payroll income and can convert some of your rollover IRA's into a Roth, paying taxes at that very low level. See here and here.
Yeah, we plan on retiring early, though it's the MMM type of retirement where we'd probably still be making some money after we retire because our idea of retirement isn't just sitting around and playing golf all day. :)

Very interesting strategy with converting a traditional IRA to a Roth over time. This is the first time I've read about that. I can see how it's a little hard to choose... because who knows what the tax rates will be in the future, or the tax laws, and so on. But I'm definitely giving the Traditional more consideration now that I've read all these posts. Ultimately, whether I choose Roth or Traditional, I think we'll be in really good shape as long as we keep saving and investing.

Thanks again to everyone who responded. I really appreciate your help!

you're right they can do Trad.  IRA.  but as his work is freelance i wouldnt contribute to an IRA until i know where i ended up for the year
Sorry, I wasn't clear -- I do *some* freelance work but that's not going to be my primary income. I'll have a normal job. The freelancing is just a little side business.
« Last Edit: January 14, 2015, 03:23:52 PM by Daffy »

Daffy

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Re: MMM's "How to Start" Investment Guide?
« Reply #11 on: January 18, 2015, 09:00:09 PM »
Stupid question alert... I think I know the answer but I want to double check.

There is also a step #4: invest in taxable investment accounts (not 401k or IRA).

So I'm 30 now... let's say I retire at 50. I need enough non-401k and non-IRA money to last me for 10 years, right? Since we can't take money out of the 401k or IRA until we are 59.5 years old (unless we want to pay a penalty).

Correct? :)

MDM

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Re: MMM's "How to Start" Investment Guide?
« Reply #12 on: January 18, 2015, 11:30:12 PM »
Stupid question alert... I think I know the answer but I want to double check.

There is also a step #4: invest in taxable investment accounts (not 401k or IRA).

So I'm 30 now... let's say I retire at 50. I need enough non-401k and non-IRA money to last me for 10 years, right? Since we can't take money out of the 401k or IRA until we are 59.5 years old (unless we want to pay a penalty).

Correct? :)

Not correct - which I hope you knew. ;)

If you didn't know, read the links in 4alpacas post:
When I was your age, I also was also told to invest in a Roth.  I did.  Now I'm forced to do a backdoor Roth (and megabackdoor roth) due to income restrictions.  If I were in your shoes, I would go with the traditional IRA.  I found the MadFIenst's blog very helpful

http://www.madfientist.com/retire-even-earlier/
http://www.madfientist.com/traditional-ira-vs-roth-ira/

NICE!

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Re: MMM's "How to Start" Investment Guide?
« Reply #13 on: January 19, 2015, 12:55:53 AM »
I second all the advice regarding the backdoor Roth, but I think you need to make sure that you both will roll with FIRE. If one person works and their salary is high, you won't really be able to game the system with a backdoor Roth. The whole point of doing it is to have a low tax rate and then BAM!, you have a free conversion from Traditional to Roth.

For me, I didn't do it before (although I might've had I known at the time) and I definitely won't do it now because my wife wants to work and I think she'll be a pretty good ladder climber if she wants. Also, I'm not convinced that I will totally stop earning money.

Daffy

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Re: MMM's "How to Start" Investment Guide?
« Reply #14 on: January 19, 2015, 10:35:51 AM »
Stupid question alert... I think I know the answer but I want to double check.

There is also a step #4: invest in taxable investment accounts (not 401k or IRA).

So I'm 30 now... let's say I retire at 50. I need enough non-401k and non-IRA money to last me for 10 years, right? Since we can't take money out of the 401k or IRA until we are 59.5 years old (unless we want to pay a penalty).

Correct? :)

Not correct - which I hope you knew. ;)
I'm not planning to do the HSA idea, at least for now. My wife's employer has a very nice full-service health benefit plan for cheap, and she actively uses it (just the prescription savings alone makes it worthwhile). I'm also on her plan.

And with the backdoor roth idea, it is still limited to withdrawing $9,750 per year (if I understand correctly). We can't live off that alone, so our money would come from our taxable investment accounts yeah? In that case, I'd need to make sure we are putting enough into taxable accounts too, since the 401k/IRA money will be locked up until 59.5.

Okay, I'm ignorant -- what is FIRE? Financial Independence Retire Early? That's my best guess!
« Last Edit: January 19, 2015, 10:38:01 AM by Daffy »

Philociraptor

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Re: MMM's "How to Start" Investment Guide?
« Reply #15 on: January 19, 2015, 10:45:25 AM »
Stupid question alert... I think I know the answer but I want to double check.

There is also a step #4: invest in taxable investment accounts (not 401k or IRA).

So I'm 30 now... let's say I retire at 50. I need enough non-401k and non-IRA money to last me for 10 years, right? Since we can't take money out of the 401k or IRA until we are 59.5 years old (unless we want to pay a penalty).

Correct? :)

Not correct - which I hope you knew. ;)
I'm not planning to do the HSA idea, at least for now. My wife's employer has a very nice full-service health benefit plan for cheap, and she actively uses it (just the prescription savings alone makes it worthwhile). I'm also on her plan.

And with the backdoor roth idea, it is still limited to withdrawing $9,750 per year (if I understand correctly). We can't live off that alone, so our money would come from our taxable investment accounts yeah? In that case, I'd need to make sure we are putting enough into taxable accounts too, since the 401k/IRA money will be locked up until 59.5.

Okay, I'm ignorant -- what is FIRE? Financial Independence Retire Early? That's my best guess!

Yes, FIRE = financially independent, retired early. IIRC, there is no limit Backdoor Roth conversions, not sure where you're getting that.

Daffy

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Re: MMM's "How to Start" Investment Guide?
« Reply #16 on: January 19, 2015, 10:53:55 AM »
Yes, FIRE = financially independent, retired early. IIRC, there is no limit Backdoor Roth conversions, not sure where you're getting that.
From here: http://www.madfientist.com/retire-even-earlier/

Quote
To access the money in the retirement accounts prior to standard retirement age without paying any penalties on the distributions, he can create something called a Roth IRA conversion ladder.

Thanks to the way Traditional IRA to Roth IRA conversions work, you are able to withdraw converted money five years after the conversion date, tax and penalty free. So in this example, assume that he converts his entire 401(k) to a Traditional IRA when he achieves FI and then, every year after that, he moves $9,750 from his Traditional IRA into his Roth IRA. He would only need to do this for five years before he could then start withdrawing $9,750 per year, tax and penalty free!

Am I reading this wrong?

After re-reading that page, it looks like the next paragraph answers my question:

Quote
Since his taxable accounts will provide enough income to sustain his first five years of early retirement and the Roth IRA conversion ladder distributions will help ensure that he has enough money to live off of until standard retirement age, there’s no reason he shouldn’t max out all of the available retirement accounts and retire over two years earlier!

My concern was that if someone were investing "only" $20,000 per year, it might not be a good idea for them to tie it all up in their 401k and IRA. Otherwise if they want to retire early, their investments aren't available to them. That's what I wanted to make sure I understood. I plan on investing more than $20k but just hypothetically speaking.

Philociraptor

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Re: MMM's "How to Start" Investment Guide?
« Reply #17 on: January 19, 2015, 10:57:54 AM »
Yes, FIRE = financially independent, retired early. IIRC, there is no limit Backdoor Roth conversions, not sure where you're getting that.
From here: http://www.madfientist.com/retire-even-earlier/

Quote
To access the money in the retirement accounts prior to standard retirement age without paying any penalties on the distributions, he can create something called a Roth IRA conversion ladder.

Thanks to the way Traditional IRA to Roth IRA conversions work, you are able to withdraw converted money five years after the conversion date, tax and penalty free. So in this example, assume that he converts his entire 401(k) to a Traditional IRA when he achieves FI and then, every year after that, he moves $9,750 from his Traditional IRA into his Roth IRA. He would only need to do this for five years before he could then start withdrawing $9,750 per year, tax and penalty free!

Am I reading this wrong?

After re-reading that page, it looks like the next paragraph answers my question:

Quote
Since his taxable accounts will provide enough income to sustain his first five years of early retirement and the Roth IRA conversion ladder distributions will help ensure that he has enough money to live off of until standard retirement age, there’s no reason he shouldn’t max out all of the available retirement accounts and retire over two years earlier!

My concern was that if someone were investing "only" $20,000 per year, it might not be a good idea for them to tie it all up in their 401k and IRA. Otherwise if they want to retire early, their investments aren't available to them. That's what I wanted to make sure I understood. I plan on investing more than $20k but just hypothetically speaking.
Yes, you are reading it wrong. That figure is based on his particular example, with the savings and expenses that the example comes with.

Daffy

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Re: MMM's "How to Start" Investment Guide?
« Reply #18 on: January 19, 2015, 11:35:22 AM »
Ahhh I see. There is no limit for the conversion. I was caught up on that example. The only "limit" in a sense is that you don't want to convert too much at once or it will put you in a higher tax bracket.

Philociraptor

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Re: MMM's "How to Start" Investment Guide?
« Reply #19 on: January 19, 2015, 12:08:16 PM »
Ahhh I see. There is no limit for the conversion. I was caught up on that example. The only "limit" in a sense is that you don't want to convert too much at once or it will put you in a higher tax bracket.

Yes. Converting the correct amount s/t you don't incur (much) tax liability is the essence of the Backdoor Roth strategy.

Roamer

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Re: MMM's "How to Start" Investment Guide?
« Reply #20 on: January 20, 2015, 08:42:23 AM »
Thanks for this thread!  I'm new to this as well and don't even know what questions to ask.