No Match 401k / debt

[phimag512]

Hi there,

My first question is does it make sense to contribute to a 401k if the company doesn't provide any sort of matching?

I'm currently contributing only 5% of my salary to my 401k at work.  I'm hesitant to increase the amount because the company I work for doesn't offer a match.

I'm recently about to pay off my credit cards completely within another month or 2, so I'll have about $900/month of extra money. 

I'm looking at my situation in 3 options:
1. Max out my ROTH IRA and also increase my payments of my student loans (39k @2.75%), leave 401k where it is.
2. Max out ROTH IRA and increase 401k contributions to between 10-15%, leave minimum payment of 264/mo for student loans.
3. Put all my money to pay off my student loans so I can be debt free in 3-4 years (I'll be close to 40 by that time).

What do you think my best options are?

Any help would be appreciated,
thanks!

Phil

[Frankies Girl]

An employer match is great, but don't overlook the advantages of just having a 401k, even if the choices are less than stellar or the fees kind of high... these might be offset by the ability to save tax deferred and to lower your taxable income now.

If it was me, I'd probably still be socking away what I could in a 401k. Reason being, that money is taken out pre-tax (so lowers your taxable income for the IRS, meaning you'll possibly pay less in income taxes NOW), and the money in the 401k grows tax deferred. It sucks you don't get a match, and I wouldn't possibly max it depending on how crummy your expense ratios/fees and investment choices are (who is the 401k with, and do they give you some decent funds to choose from?). But if it was not crazy high in fees and have at least one decent fund, I'd probably be trying to maximize the contribution to the 401k ASAP.




Do you have an emergency fund?

Do you have any other savings/investments? You mention a Roth, but it's unclear if you already have one or are going to open one...

You say you'll be 40 in a few years... if you've been in debt up until now and have no significant savings, then I would probably take the extra $900 and split it 50/50 between upping the 401k (contingent on the choices/fees), and the rest into your emergency fund until you've built up about 3-6 months with this part funding your Roth once your emergency fund is decent.

Just keep paying the minimum on the student loans as that interest rate is pretty good. I wouldn't be in any rush to pay off the loans at that rate, so it would be the very last thing on the list in my opinion.

[phimag512]

Hi, thanks for responding!  The company I work for is Whole Foods Market. I have about 10k in my 401k currently, $1,200 in a stock option plan that they provide for us, and 6k in my ROTH IRA.  It's nothing huge all together, and I feel like I'm so far behind based on my age which makes me nervous... but it's a start.

As for the investment options for the 401k, I tried to pick all the ones that at least had very low fees.  They have a bunch of Vanguard & Fidelity which is where I selected most of mine.  Then they have a few others with T.Rowe, Spartan, and American Beacon. 

My emergency fund is only about $500, so splitting that $900 between the 401k and that would help out.  I don't have any other investments however, other than the ones i mentioned above.  I had always thought it would be better to put the money in the Roth than the 401k since you don't get taxed when you take it out.  Having it grow tax deferred might be better, I've was averaging around 7-12% the first few years but the past few has been 3-5% so maybe I need to take a look at my investment choices again (7 years all together).   

thanks again for your help, I'm going to definitely consider that approach!

[MDM]

I had always thought it would be better to put the money in the Roth than the 401k since you don't get taxed when you take it out.  Having it grow tax deferred might be better

It all depends on the tax rate you are paying when you put the money in, vs. the tax rate you are paying when you take the money out.

If P is the pre-tax amount you have for investment, t1 is the tax rate now and t2 is the tax rate later, i is the investment return, and n is the number of years invested:

traditional = P * (1 + i)^n * (1 - t2)
Roth        = P * (1 - t1) * (1 + i)^n

If t1= t2, the results are identical, because A*B*C = A*C*B.

Many more nuances and if-then situations regarding traditional vs. Roth but the above is a start.

[phimag512]

It sounds like someone in my situation, based on my current income and how much I have saved currently, that I would benefit better with the ROTH IRA.  On the other hand I could always increase my contributions around 15-20%.  What is the maximum % you can contribute in a 401k?  If I did that then it would push myself into a lower tax bracket of 15%, instead of 25% currently.

It still bothers me I'll be paying the loans until I'm close to retirement, however with raises/bonuses I could try to just double my payments so that it doesn't seem like a lifetime.  I should have been near the end of my loans, but I kept going into a forbearance so the interest kept racking up over the early years. Oh well, lessen learned the hard way.

[Frankies Girl]

It sounds like someone in my situation, based on my current income and how much I have saved currently, that I would benefit better with the ROTH IRA.  On the other hand I could always increase my contributions around 15-20%.  What is the maximum % you can contribute in a 401k?  If I did that then it would push myself into a lower tax bracket of 15%, instead of 25% currently.

It still bothers me I'll be paying the loans until I'm close to retirement, however with raises/bonuses I could try to just double my payments so that it doesn't seem like a lifetime.  I should have been near the end of my loans, but I kept going into a forbearance so the interest kept racking up over the early years. Oh well, lessen learned the hard way.

401k max contributions as of this year is $18,000 - so getting it maxed out could very well push you into a lower tax bracket if you're on the edge. Roth IRAs are limited to 5,500.

I'd still say priority is to get your savings/investments funded before paying off the loan since the rate is so low, but I too would have a hard time carrying that debt for a long time. You could start making extra payments using your bonus and raises, but I'd personally just max the Roth, up my 401k contribution with every raise, and then maybe use any bonus to throw some more money at the loan.

You could also look at some of your other spending/bills and try to free up extra money towards the loan and get it paid off faster without sacrificing money for your investments/retirement.

In any case, good for you for paying off your cc debt, thinking all this stuff through and getting a plan in place... you're already light years ahead of most folks! ;)

[Jack]

Generally speaking, the order in which you should contribute to retirement accounts is as follows:

• 401K up to the amount required to get the full employer match
• IRA (or Roth IRA) up to the yearly maximum (currently $5,500)
• 401K up to the yearly maximum (currently $18,000)

Since you don't get a company match, eliminate step #1.

This ordering assumes that the investment choices in an IRA will be better than those in the 401K (because for the IRA you can pick a low-cost provider, like Vanguard, whereas for the 401K you're stuck with whatever your employer chooses). If that's not the case -- for example, if your IRA would only allow you to invest in VTSMX (0.17% expense ratio) or VTSAX (0.05% expense ratio), but your 401K allows you to invest in VITSX (0.04% expense ratio) and doesn't have any other fees, then maxing the 401K should be done before starting to invest in the IRA.

As for Roth vs. traditional, that's a separate issue only tangentially related to the question of IRA vs. 401K. The only situation when it matters is if you determine a Roth is better for your tax situation and you would otherwise be inclined to invest in the 401K (e.g. because it has lower expenses, as in the example above) first and your employer does not offer a Roth 401K. In that case, the tax advantages of the Roth might outweigh the slightly lower expense ratios. However, such a situation is highly improbable. In particular, it is never worth foregoing a company match on a traditional 401K just to get a Roth IRA instead (because the match is free money, so your marginal tax rate would have to be so high that the tax savings would exceed the match -- which never happens).

[phimag512]

Since you don't get a company match, eliminate step #1.

This ordering assumes that the investment choices in an IRA will be better than those in the 401K (because for the IRA you can pick a low-cost provider, like Vanguard, whereas for the 401K you're stuck with whatever your employer chooses). If that's not the case -- for example, if your IRA would only allow you to invest in VTSMX (0.17% expense ratio) or VTSAX (0.05% expense ratio), but your 401K allows you to invest in VITSX (0.04% expense ratio) and doesn't have any other fees, then maxing the 401K should be done before starting to invest in the IRA.

Damn. When I opened it years ago, I never thought to look at the fee it would bring with the fund. The fund I have my ROTH IRA is with Fidelity (FFFFX), I just looked at the fees and it's at 0.78% expense ratio (gross).  Basically when I pick a fund for an IRA, I'm stuck with that fund for the life of the IRA correct?  I do have some decent options with the 401k with smaller fees (Vanguard), which I spoke about above. The (FFFFX) fund has performed pretty well with high rates of return (for the exception of '11), but if I'm getting hit with a "higher than normal" fee, I'm not so sure now.  I just wish my company would provide some sort of match, that way this could be a simple choice to make.

[phimag512]

You could also look at some of your other spending/bills and try to free up extra money towards the loan and get it paid off faster without sacrificing money for your investments/retirement.

In any case, good for you for paying off your cc debt, thinking all this stuff through and getting a plan in place... you're already light years ahead of most folks! ;)

Thanks! It was really high! I had already cut down on a lot of spending, keeping track of where my money goes.  I cut out some luxuries, and I own my car with no payments.  I moved to an area where I can walk to work if I wanted to, but I can easily just bike it.  This is a really awesome site, I love this forum, it's definitely helped me out make some good financial decisions over the past year.

[Jack]

This ordering assumes that the investment choices in an IRA will be better than those in the 401K (because for the IRA you can pick a low-cost provider, like Vanguard, whereas for the 401K you're stuck with whatever your employer chooses). If that's not the case -- for example, if your IRA would only allow you to invest in VTSMX (0.17% expense ratio) or VTSAX (0.05% expense ratio), but your 401K allows you to invest in VITSX (0.04% expense ratio) and doesn't have any other fees, then maxing the 401K should be done before starting to invest in the IRA.

Damn. When I opened it years ago, I never thought to look at the fee it would bring with the fund. The fund I have my ROTH IRA is with Fidelity (FFFFX), I just looked at the fees and it's at 0.78% expense ratio (gross).  Basically when I pick a fund for an IRA, I'm stuck with that fund for the life of the IRA correct?

Not at all. You can exchange funds within your IRA or transfer your IRA between custodians pretty much whenever and however you want.

If you wanted to stay with Fidelity -- which isn't a bad choice, overall -- you could call them (or use their website) to exchange your FFFFX for (just for example) FSTMX. The important thing here is that, in addition to lowering your expense ratio, you also need to pay attention to your asset allocation, as (again, for example) FFFFX and FSTMX are not equivalent (FFFFX is a target retirement 2040 fund while FSTMX is a total stock market index fund).

Or, if you wanted to switch custodians to Vanguard (again, for example), you could call them up and ask them to help you transfer your IRA to them. They'll coordinate with Fidelity to move your assets without triggering any tax implications, and they'll either ask you what Vanguard funds you want to invest in or automatically invest your assets into VFORX, which is Vanguard's target retirement 2040 fund (which, by the way, has a 0.18% expense ratio -- much lower cost than the Fidelity equivalent!).

The main thing you have to be careful about is that you don't want to just "withdraw" your assets from your Fidelity IRA, or if you do withdraw your assets then you want to make very sure they get deposited back into some other IRA ASAP (within 60? days), so that the IRS doesn't penalize you.

[Valhalla]

If you have debt, and are in the begging steps of investing, I highly suggest Dave Ramsey's baby steps to getting out of debt and start saving.

I don't always agree with Ramsey, but his steps are pretty solid and proven.

[r3dt4rget]

If you have debt, and are in the begging steps of investing, I highly suggest Dave Ramsey's baby steps to getting out of debt and start saving.

I don't always agree with Ramsey, but his steps are pretty solid and proven.

A lot of Dave's advice applies to people with high interest debt like credit cards and auto loans. OP has nearly paid off CC's, and the student loan interest rates are so low it makes more sense to invest rather than pay down the debt early. The question here isn't how to start saving, it's what to do with the savings.

[phimag512]

Not at all. You can exchange funds within your IRA or transfer your IRA between custodians pretty much whenever and however you want.

That's great to know I can do something like that.  You're right, both of the ones you mentioned are a lot lower in cost than what I have going on right now! Vanguard seems to be really popular on this site when it comes to their Index Funds, especially when reading some of MMM blogs. I'll check out their site to see if it makes sense to switch to them based on their funds/fees or just stick with Fidelity to make an exchange.  In any case, it sounds like it would be pretty straight forward to get this done with whatever custodian I go for, thanks for the help!

[Valhalla]

If you have debt, and are in the begging steps of investing, I highly suggest Dave Ramsey's baby steps to getting out of debt and start saving.

I don't always agree with Ramsey, but his steps are pretty solid and proven.

A lot of Dave's advice applies to people with high interest debt like credit cards and auto loans. OP has nearly paid off CC's, and the student loan interest rates are so low it makes more sense to invest rather than pay down the debt early. The question here isn't how to start saving, it's what to do with the savings.

Dave's baby steps also relate to what happens after paying off debt - build emergency fund, invest in 401k up to company match, then Roth IRA, etc..

Still very relevant to the OP's scenario.

OP has not begun to save in earnest yet, so Dave Ramsey still applies.

[Another Reader]

I prefer Fidelity to Vanguard for the website and customer service.  They also have offices where you can visit your money and the folks minding it.  I believe Frankie's Girl is also in the Fidelity camp.  Fidelity has a line of inexpensive index funds called Spartan funds.  Their expense ratios are similar to Vanguard's and you get the better service.

[Jack]

Not at all. You can exchange funds within your IRA or transfer your IRA between custodians pretty much whenever and however you want.

That's great to know I can do something like that.  You're right, both of the ones you mentioned are a lot lower in cost than what I have going on right now! Vanguard seems to be really popular on this site when it comes to their Index Funds, especially when reading some of MMM blogs. I'll check out their site to see if it makes sense to switch to them based on their funds/fees or just stick with Fidelity to make an exchange.  In any case, it sounds like it would be pretty straight forward to get this done with whatever custodian I go for, thanks for the help!

Vanguard is popular for two related reasons: (1) it has a unique corporate structure that better aligns the company's interest with its customers' interest, which in turn causes it to (2) charge very low expense ratios.

Fidelity is a much more traditional, profit-oriented company; however, in order to compete with Vanguard it has created a line of low-cost index funds (Spartan funds), which cause it to be a good choice too -- as long as you stick to those low-cost funds and eschew attempts at up-selling for things like financial planning advice.

Having my IRA at Vanguard and my 401K at Fidelity, I haven't noticed any particular advantages of the latter in terms of website quality or customer service (but then again, I don't require much hand-holding to begin with). Without that being a factor, I think the ethical superiority (in my opinion) of Vanguard's business model gives it a slight edge.

[phimag512]

Dave's baby steps also relate to what happens after paying off debt - build emergency fund, invest in 401k up to company match, then Roth IRA, etc..

Still very relevant to the OP's scenario.

OP has not begun to save in earnest yet, so Dave Ramsey still applies.

Right on. Every little bit helps, and yes I really need to start an emergency fund.  It was mentioned by Frankie's Girl also.  I'll be splitting my extra savings at first between that and the investments.   

[Valhalla]

Dave's baby steps also relate to what happens after paying off debt - build emergency fund, invest in 401k up to company match, then Roth IRA, etc..

Still very relevant to the OP's scenario.

OP has not begun to save in earnest yet, so Dave Ramsey still applies.

Right on. Every little bit helps, and yes I really need to start an emergency fund.  It was mentioned by Frankie's Girl also.  I'll be splitting my extra savings at first between that and the investments.

Best of luck to you!

When I was in your shoes I had very little in the way of online resources as to what to do. So I read a lot - The Wealthy Barber, Your Money or Your Life, The Millionaire Next Door, etc. 

I got to a point where I had $100k in cash in the bank, and I was still having anxiety because I was worried I didn't have enough emergency funds... it was crazy.

You are so lucky now to have these resources when I didn't. Take advantage and keep plugging away.