Author Topic: Some Questions from a Newbie  (Read 2374 times)

grandcentralgb

  • 5 O'Clock Shadow
  • *
  • Posts: 1
Some Questions from a Newbie
« on: January 03, 2014, 10:43:37 AM »
Hi All:

My new year's resolution for 2014 is to take control of my money.  I've been far too passive and I'm sick of it.  However, I have some questions and was hoping you all could provide some insight.  I apologize if the questions seem to be all over the place; I've had a number of different thoughts running through my head the last few days.  Thanks in advance!

1.  I have about $20,000 of extra cash I would like to invest outside of my taxable accounts.  I am thinking about doing the basic split of stocks, bonds and int'l stocks through Vanguard.  Both my husband and I also have traditional IRAs with Vanguard.  I know I should include the traditional IRAs as part of the overall asset allocation but what makes more sense for the IRA vs. the other investment?  In other words, does it make sense to have the IRAs be more bond heavy (as an example)?  I hope I explained that clearly.

2.  We started our IRAs years ago before the backdoor Roth option came up.  My IRA has rolled over money from a previous 401k so I don't even want to think about doing a backdoor Roth due to the tax implications.  However, would it be worth doing for my husband?  Or is it silly to pay tax on the gains?  We are actively contributing to the IRAs each year - would there be any way for us to do a backdoor conversion with new money on my husband's without paying taxes or is it one of those things where if you didn't start the conversion right away you will always have to pay taxes on the gains?  Again, hope I explained myself clearly.  Just trying to see if we are SOL with the Roth conversion forever (in terms of not paying taxes).

3.  We both contribute the max amount to our 401k plans and both are with other companies (not Vanguard).  Mine has been performing well in a target fund and has a low expense ratio.  Do I need to change around its allocation now that I want to add in some other investment accounts in Vanguard or can I leave it alone?  Would my husband's also need to be changed around?  I really would love to leave at least mine alone.  I feel like I would get overwhelmed if dealing with the 401k, the IRA and other funds.  Also, I'm risk adverse and I'm happy with what my 401k is doing.

4.  My husband's 401k plan has higher fees and I'd love to do something about it.  Is there anything that can be done besides looking at the individual funds and choosing ones with lower fees?  He is also in some sort of target fund.  Can it be rolled over anywhere while he is a current employee?  We don't want to lose the option to contribute $17,500 to his account as this is our primary source of retirement money. 

5.  Dovetailing on that last thought, is the 401k the smartest vehicle for our primary retirement money?  Or is a traditional IRA better?

I feel like I did not explain myself well and apologize.  If you made it through and have words of advice, I welcome it.  Thank you again!

Eric

  • Magnum Stache
  • ******
  • Posts: 4061
  • Location: On my bike
Re: Some Questions from a Newbie
« Reply #1 on: January 03, 2014, 01:40:49 PM »
I'll take a stab at these for you.

1.  I have about $20,000 of extra cash I would like to invest outside of my taxable accounts.  I am thinking about doing the basic split of stocks, bonds and int'l stocks through Vanguard.  Both my husband and I also have traditional IRAs with Vanguard.  I know I should include the traditional IRAs as part of the overall asset allocation but what makes more sense for the IRA vs. the other investment?  In other words, does it make sense to have the IRAs be more bond heavy (as an example)?  I hope I explained that clearly.

I'm assuming you mean you have $20k to invest outside of your tax advantaged accounts (401k, Trad. IRA) and are looking at investing in a taxable brokerage account.  (taxable because you'll pay income taxes on the dividends received, the money is post-tax and also the capital gains will be taxed when you sell)

It's generally recommended that you keep bonds, REITs, and dividend heavy stocks in your tax advantaged accounts, and other stocks, index funds, etc. in your taxable account.  Try this:
http://www.bogleheads.org/wiki/Principles_of_tax-efficient_fund_placement
If that's a little too advanced right now, don't worry about it.  The most important part BY FAR is to save and invest your money.  Pick an low fee index fund and a bond fund, decide on a desired allocation (80/20? 70/30?), and invest regularly.  Sure the tax stuff is important, but the difference between elite tax optimization and no tax optimization is extremely small compared to the difference between investing and not investing.  If later on you decide you want a different allocation, different fund, whatever, you can adjust your investing at that time.

2.  We started our IRAs years ago before the backdoor Roth option came up.  My IRA has rolled over money from a previous 401k so I don't even want to think about doing a backdoor Roth due to the tax implications.  However, would it be worth doing for my husband?  Or is it silly to pay tax on the gains?  We are actively contributing to the IRAs each year - would there be any way for us to do a backdoor conversion with new money on my husband's without paying taxes or is it one of those things where if you didn't start the conversion right away you will always have to pay taxes on the gains?  Again, hope I explained myself clearly.  Just trying to see if we are SOL with the Roth conversion forever (in terms of not paying taxes).

Anytime you roll pre-tax money (Traditional IRA/401k) into a post-tax account (Roth IRA) you'll owe taxes.  Do you plan to be in a higher tax bracket during retirement than you are now?  Most people plan to be in a lower tax bracket at retirement, making the time to rollover any funds to a Roth after retirement when they'll pay less in taxes because their income will be lower.  You'll generally want to keep as much money in your tax advantaged funds as possible while working.
http://www.madfientist.com/retire-even-earlier/


3.  We both contribute the max amount to our 401k plans and both are with other companies (not Vanguard).  Mine has been performing well in a target fund and has a low expense ratio.  Do I need to change around its allocation now that I want to add in some other investment accounts in Vanguard or can I leave it alone?  Would my husband's also need to be changed around?  I really would love to leave at least mine alone.  I feel like I would get overwhelmed if dealing with the 401k, the IRA and other funds.  Also, I'm risk adverse and I'm happy with what my 401k is doing.

Nice work on maxing out your 401ks!  I see no reason to touch either of your 401k(s) if you're happy with them.

4.  My husband's 401k plan has higher fees and I'd love to do something about it.  Is there anything that can be done besides looking at the individual funds and choosing ones with lower fees?  He is also in some sort of target fund.  Can it be rolled over anywhere while he is a current employee?  We don't want to lose the option to contribute $17,500 to his account as this is our primary source of retirement money.

There's not much that can be done in the short term about high fees in a 401k.  Choosing the lowest fee options is usually your best bet.  It can't be rolled over until he leaves his job.  However, if he has a company match, consider that it's a guaranteed return of X% that helps offset those fees.
In the long term, he can join with his co-workers and lobby his company to switch to a lower fee plan.


5.  Dovetailing on that last thought, is the 401k the smartest vehicle for our primary retirement money?  Or is a traditional IRA better?

How about both?  They're basically the same in that they're both pre-tax, with the difference being that you can contribute WAY MORE to your 401k than you can to an IRA. ($17.5K vs $5.5K)  Again, see the MadFientist link above.

I can't leave you without recommending the Stock Series of articles by Mr. J L Collins.  I'd highly recommend finding some time to read these posts.

http://jlcollinsnh.com/stock-series/



seattlecyclone

  • Magnum Stache
  • ******
  • Posts: 4815
  • Age: 34
  • Location: Seattle, WA
Re: Some Questions from a Newbie
« Reply #2 on: January 03, 2014, 02:28:05 PM »
Hi All:

My new year's resolution for 2014 is to take control of my money.  I've been far too passive and I'm sick of it.  However, I have some questions and was hoping you all could provide some insight.  I apologize if the questions seem to be all over the place; I've had a number of different thoughts running through my head the last few days.  Thanks in advance!

1.  I have about $20,000 of extra cash I would like to invest outside of my taxable accounts.  I am thinking about doing the basic split of stocks, bonds and int'l stocks through Vanguard.  Both my husband and I also have traditional IRAs with Vanguard.  I know I should include the traditional IRAs as part of the overall asset allocation but what makes more sense for the IRA vs. the other investment?  In other words, does it make sense to have the IRAs be more bond heavy (as an example)?  I hope I explained that clearly.

I find this Bogleheads article is a good resource for what you should put where. (And Eric posted the same link. It's that good). It shows a spectrum of different assets based on their tax efficiency. In general you'll want to put your REITs and corporate bonds in your IRA if possible, and stock funds tend to be better in a taxable account.

The key is to first figure out what percentage of your overall wealth you want to devote to stocks, bonds, etc. This is your asset allocation. Once you've decided that, it's just a matter of determining where on that spectrum you have to put the line between taxable and tax-advantaged accounts based on how much money you have in each type of account. Asset types above the line go in the taxable accounts and asset types below the line go in the tax-advantaged accounts.

Quote
2.  We started our IRAs years ago before the backdoor Roth option came up.  My IRA has rolled over money from a previous 401k so I don't even want to think about doing a backdoor Roth due to the tax implications.  However, would it be worth doing for my husband?  Or is it silly to pay tax on the gains?  We are actively contributing to the IRAs each year - would there be any way for us to do a backdoor conversion with new money on my husband's without paying taxes or is it one of those things where if you didn't start the conversion right away you will always have to pay taxes on the gains?  Again, hope I explained myself clearly.  Just trying to see if we are SOL with the Roth conversion forever (in terms of not paying taxes).

The backdoor Roth works because if you make post-tax contributions to a traditional IRA and immediately convert to a Roth, you don't have to pay any tax on the conversion because you don't have any gains to pay tax on. But it only really works if you have little to no money already in a pre-tax traditional IRA. If you already have pre-tax money in an IRA, any conversions are pro-rated between the pre-tax funds and the post-tax funds.

For example, let's suppose you have $94,500 in an IRA from pre-tax contributions (and/or 401(k) rollovers) in previous years. Your income is too high for a Roth contribution this year, so you contribute the maximum $5,500 post-tax to your traditional IRA this year, bringing the total account value to $100,000. You then roll over $10,000 to a Roth IRA. You'll pay tax on 94.5% of this money ($9,450) and the other 5.5% ($550) comes out of your post-tax bucket. Doing this you'll pay a little less tax than if you had done a $10,000 rollover without first contributing post-tax money to the IRA, but it's not a big difference. It doesn't matter if you have multiple separate IRA accounts with different companies, or if all the money goes into the same account; the IRS treats it the same when doing the tax calculation.

You and your husband are considered separately in this math. So if you have a lot of pre-tax money in your IRA, but your husband has very little (if any) pre-tax money in his, then it might make sense to do a backdoor Roth for him but not for you.

Quote
3.  We both contribute the max amount to our 401k plans and both are with other companies (not Vanguard).  Mine has been performing well in a target fund and has a low expense ratio.  Do I need to change around its allocation now that I want to add in some other investment accounts in Vanguard or can I leave it alone?  Would my husband's also need to be changed around?  I really would love to leave at least mine alone.  I feel like I would get overwhelmed if dealing with the 401k, the IRA and other funds.  Also, I'm risk adverse and I'm happy with what my 401k is doing.

See my answer to your first question. You first want to decide what your overall asset allocation will be. How much of your money do you want to invest in domestic stocks, foreign stocks, bonds, real estate, etc.? Then figure out where the cutoff line between taxable and tax-advantaged asset classes should be, based on how much money you have in each type of account.

Let's suppose you have $75k in retirement accounts and $25k in taxable accounts. You've decided your ideal asset allocation is 10% in REITs, 30% in bond funds, 30% in small-cap stock index funds, and 30% in total market stock index funds.  In this case, you'll have all your REITs, bond funds, and small-cap stocks in the retirement accounts. You'll also invest a little bit ($5k) in total stock market funds within your retirement accounts. The remaining $25k of total stock market funds will be in your taxable account.

If you have multiple retirement accounts between you and your spouse, it doesn't matter all that much which assets you put in each one. So if the funds you already have in your 401(k) fit in with your asset allocation and which assets you've decided you should put in which places, you can certainly keep the same funds in your 401(k) going forward. You'll just need to rebalance your husband's 401(k), your IRAs, and your taxable account so that the overall asset allocation across all your accounts adds up right.

Different 401(k) options between different employers can make this a bit of a tricky puzzle. In my case, my wife's 401(k) has access to some really nice low-fee bond funds and a nice small-cap value stock fund, so we invest heavily in those funds in her account. My employer's 401(k) has a good REIT fund and some good domestic stock funds, so we invest heavily in those funds in my account. Then we use our IRAs to fill in the gaps, investing in funds from asset classes where neither of our 401(k) plans has a good option available.

Again, what matters is that your overall asset allocation across all of your accounts should be what you've decided it should be, and that the more tax-efficient investments are in the taxable accounts.

Quote
4.  My husband's 401k plan has higher fees and I'd love to do something about it.  Is there anything that can be done besides looking at the individual funds and choosing ones with lower fees?  He is also in some sort of target fund.  Can it be rolled over anywhere while he is a current employee?  We don't want to lose the option to contribute $17,500 to his account as this is our primary source of retirement money.

You can't really do much about this other than lobby his HR department to get some better funds. Choose the best ones available. Since his plan has the worst options, this may be where you start your planning. If the only half-decent fund in his plan is a bond fund, then put all your bond money there. Fill out the rest of your asset allocation in other accounts where you have more flexibility.

In the meantime, keep investing as much as you can in this account. He won't be in this job forever. The long-term benefit of tax deferral will outweigh the short-term pain of being forced to invest in funds with expenses that are too high. When he leaves the job, that money will be yours to roll into an IRA and invest in better funds.

Quote
5.  Dovetailing on that last thought, is the 401k the smartest vehicle for our primary retirement money?  Or is a traditional IRA better?

It depends. Ideally you'd like to be able to max out both, but that's obviously not an option for everybody. I would say you should definitely invest in the 401(k) to the extent that part of your contributions are matched by the company. If your employer has a good selection of low-fee funds available, you might as well keep investing in the 401(k) above and beyond the match limit. Some employers (especially larger ones) often have lower-fee funds available than you might be able to get as an individual investor, because the plan has so much money in it. If that's not the case with your employer's plan, than extra funds above the 401(k) match limit should probably go in the IRA where you can invest in basically anything you want.