Free Money Finance

The Last Words on Roth IRAs Versus Traditional IRAs (At Least for Today)

We've covered a lot of territory in our conversation about the Roth IRA versus traditional IRAs including the following posts:

• Retirement Smackdown: Which is Better -- Traditional IRA or Roth IRA?

• More on Traditional IRAs Versus Roth IRAs

• More on Traditional IRA Versus Roth IRA

• Traditional IRAs and Roth IRAs: Invest in Both to Diversify Your Tax Risk

I'm not going to post on this issue forever (I'm sure many of you are thankful for that), but I did want to publish a few comments left on Traditional IRAs and Roth IRAs: Invest in Both to Diversify Your Tax Risk that make a lot of sense to me. Here's the first:

Frankly, for people with 401K's, [tax] diversification would suggest you put all your IRA contributions to a ROTH since the 401K has the same tax treatment as a trad. Basically, pick a percentage of your income to save, invest in the 401K up to employer match and put the remainder in your Roth. Now you're tax diversified.

Another reader echoed this thought:

Matt beat me to my point. I invest heavily in my 401k (more than IRA limits), so I max out my Roth IRA for [tax] diversification. If all you do is invest in the IRA and not in the 401k, 403b, etc, then investing in both makes sense for tax diversification.

Great points!

If you're like me, you have a good amount of money in a 401k and in traditional IRAs that have been created from past 401k rollovers. As such, ALL of your extra retirement savings money (after getting your full 401k employer match) should go into a Roth to maximize tax diversification.

Then again, this whole conversation may be moot. Consider this thought left by a reader of Retirement Smackdown: Which is Better -- Traditional IRA or Roth IRA?:

It is amazing how many investors and financial professionals believe that Congress will allow the money accumulated in Roth IRA plans to go untaxed. Just look at their track record. They make promises up front, gather in all the sheep, then fleece them. Social Security is a prime example: in 1935 Congress promised the SS tax would never exceed $2.00 (two dollars) per year per worker. Now look at the present level of SS taxes, plus the double taxation on Social Security Retirement Benefits above a certain income level. It's a sure bet that the Roth distributions will be taxed above an income level yet to be determined. I chose the Traditional IRA, and now I'm guaranteed to pay taxes only once. Trusting Congress to refrain from double taxation of a Roth IRA would better be called a Fooledya IRA.

Yes, given the state of our country's finances and the fact that a ga-zillion dollars will be in Roths in the decades to come, it's not unimaginable that Congress would be tempted to go after these to collect some needed taxes.

Ten Top Jobs for Older Workers

Think you'd like to work into "retirement" but aren't sure what you'd like to do? Never fear -- US News has made it easy for you by naming the top ten jobs for the 60-plus set. Their list:

• Fundraiser
• Angel investor
• Geriatric care manager
• Mediator
• Politician
• Personal coach
• Seller of senior-oriented items
• Home-based entrepreneur
• Celebrant
• Board member

Most of these are jobs I'd consider. I think geriatric care manager and politician are best left to others, but I think I could enjoy the other eight.

How about you? Any jobs here you think you'd like during the later years of your life?

Still Shocked by How Little People Have Saved for Retirement

While reading Losing Sleep-Literally-Over the Future, I noticed a chart on the side of the piece that listed the retirement savings for people of various ages. I've seen similar data before (plus I'm rather jaded by this point on the lack of financial preparedness) but the data shocked me (again.) Why? It shocks me that people so close to retirement have so little saved for it.

For instance, here are the numbers for people 55 and older:

• 32% have less than $25,000 saved
• 9% have $25,000 to $49,999 saved
• 11% have $50,000 to $99,999 saved
• 20% have $100,000 to $249,999 saved
• 28% have $250,000 or more saved

The YOUNGEST people in this group are 55 years old. That means we're talking about 60-year-olds, 65-year-olds, and people even older in this group -- many of whom have almost nothing saved! 52% of them have less than $100,000 saved for retirement. Yikes!

The article itself advises people what they should do instead of losing sleep worrying about their retirement. So, what does US News suggest to make the most of retirement? Their thoughts:

• Plan for the financial transition. Financial planners say it's key to develop a strategy for shifting your savings into a steady stream of income that you can tap in retirement.

• Pay down debt before you retire. "Having debt going into retirement is not the way to have a successful retirement."

• Evaluate your assets. Take stock of all the sources of income you're going to have in retirement.

• Make health insurance coverage a must. If you retire before age 65, make sure you have health insurance.

• Take care of your health. Perhaps even more important than accruing financial assets is investing in yourself with healthful foods, exercise, and preventive care so that catastrophic healthcare costs can be avoided as much as possible.

Unfortunately, the piece doesn't tell people how to save more (or that they should be doing so.) As such, here are a few posts that are more in-line with that sort of thinking:

• 10 Retirement Pitfalls, Pitfall #2: Waiting to Save

• Retirement Nightmare: We Aren't Saving Enough

• How to Maximize Your Retirement Savings

Why Money Magazine Thinks a Roth Beats a Traditional IRA

Since we've been going back and forth quite a bit about the value of a Roth IRA versus a traditional IRA (see these posts for details: Retirement Smackdown: Which is Better -- Traditional IRA or Roth IRA?, More on Traditional IRA Versus Roth IRA, More on Traditional IRAs Versus Roth IRAs) I thought it would be interesting to share a view from Money magazine. They think the Roth is the best way to go for one simple reason: you'll end up with more money in the long run. They do some math to back up their findings, but here's the bottom line:

When you're contributing the max, the Roth has the distinct edge since more of your money grows without the drag of taxes. The advantage is sometimes so large that a Roth remains the better option even if you move to a slightly lower bracket in retirement.

They also address the tax issue. Most financial advice says that if you expect your taxes to go down in retirement, go with a traditional IRA. If you think they'll go up, go with a Roth. Here's what Money has to say:

You can't really count on your tax rates dropping in retirement. If you travel a lot or live a particularly comfy lifestyle, your withdrawals from retirement accounts could easily be high enough to keep you in the same bracket that you're in now or knock you into a higher one.

Another tax wild card: Congress. Given the size of the budget deficit, it's hardly a stretch to imagine that future legislators might raise tax rates, which could sharply reduce the after-tax value of the money you have stashed in traditional IRAs and 401(k)s.

By funding a Roth, you hedge against the possibility of higher rates by ensuring you'll have some savings that won't be subject to income taxes at all.

Roths have another nifty advantage. With a regular IRA, you have to take distributions after age 70½. Roths have no such rules, which means you can let your entire balance grow without taxes for the rest of your life if you wish - and pass on the tax-free gravy train to heirs.

They make a pretty compelling argument, don't you agree?

I'm still in the tax diversification camp -- the one that says some of your money should be in tax-free accounts (like the Roth) and some in tax-deferred accounts (like the traditional IRA.) Then again, for those of you who don't qualify for a Roth, the choice is made for you (until 2010 that is -- the year you can convert your traditional IRAs into Roth IRAs.)

Help a Reader: Should He Pay Into His Pension?

Here's a question I recently received from a reader:

I'm a public school teacher.  I moved last year after teaching in another state for four years.  I am currently paying into a pension plan and have the option to buy the four years that I worked in the other state.  The price of buying all four years would be about $8000.  I can spread payments out over six years, costing about $110 a month.

If I retire when I'm 60, I have 27 more years to work.  It's hard to say what this would mean for me in retirement, since it depends on what my final salary will be when I retire. By rough calculations, it could increase my retirement benefits between $7-11 thousand per year.

But, if I were to pay that 110 per month into a simple savings account earning 5% for six years and then leave it alone for the next 21 years, I'd end up with 26,000.  In a 403(B) earning 10%, it'd be 88,000.

It seems to me I'd be better off not buying the service credits and just investing that money now, especially since I have a long time until retirement, who knows if I'll retire at 60 or later, and who knows if I'll still be paying into the same pension.  What is your opinion?

So, what's your advice for him?

Consider Delaying Social Security Benefits

Here's a piece courtesy of Marotta Asset Management that recommends delaying the receipt of Social Security benefits:

Over seven out of every ten Americans opt to receive their Social Security checks as soon as possible. This is usually a mistake. By delaying when you start receiving your benefits, you may receive more money and ensure you have a better retirement in the long run.

Part of the confusion about timing Social Security benefits stems from the fact that full retirement age isn't the same for everyone. For Americans born between 1943 and 1954 full retirement age is 66. For everyone born before or after those dates, the full retirement age is set on a sliding scale between age 65 and 67.

You can wait until your full retirement age to begin benefits, or you can opt to receive benefits as early as age 62 or as late as age 70. Most people decide to take the cash early and run. By taking Social Security at age 62, your monthly benefit is locked in at a much lower payout rate, forever.

However, if you wait until age 70, you will receive your full monthly benefit plus additional money for being patient. After age 70, there's no additional benefit increase, so there's no point in delaying benefits any further. The bottom line: the longer you wait, up to age 70, the higher your monthly benefit.

According to the Social Security Administration, it doesn't matter which option you choose. But, the numbers tell a different story.

When it comes to timing your Social Security benefits, delayed gratification does pay off. For retirees born in 1943 or later, benefits increase by 8% for each year you delay receiving your benefit. In addition to the 8% increase in benefits, your actual payment will also be indexed for inflation! In other words, if inflation is running at 3%, your actual benefit amount will increase by an impressive 11% for each year you delay taking the benefit!

This still doesn't answer the big question: Is it better to get a smaller payout for a longer period of time or a bigger payout for a shorter amount of time? As a rule of thumb, the longer you expect to live, the more likely the later payout will pay off.

Let's consider an example. Triplets Peter, Paul, and Mary, born in 1941, are presented with identical benefit options. Each can opt for a monthly benefit of $758 at 62. They can wait until full retirement age of 65 years and 8 months for a benefit of $1,000. Or, they can delay benefits until age 70 and receive $1,312 per month.

Peter couldn't pass up the opportunity to take the earliest possible payout. He locked in his payout at $758 beginning at age 62. Paul decided to wait until his full retirement age (65 and 8 months) to receive his $1,000 monthly check. Mary decided to wait until age 70 to get a monthly benefit of $1,312.

And although Peter was the first to begin collecting his money, he didn't end up with the biggest total payout. By the triplets' 78th birthday, Paul's benefits had surpassed the total payout Peter had received. And although Mary didn't begin receiving her checks until age 70, soon after the triplets' 83rd birthday, the total value of Mary's benefits had outstripped both of her brothers'.

Upon the triplets' death at age 90, Peter had received $254,688 in total benefits. Paul had received $291,000, and Mary had received $316,192.

In other words, the longer you expect to live, the better off you'll be opting for the age 70 payout. But, does that mean you should spend down your savings, waiting for the bigger benefit?

The best plan is to keep working until age 70. That way, you can both delay taking benefits and avoid tapping into your savings. If you are unable to keep working, choosing between early benefits or draining your savings while you wait for the higher payout requires some very careful thought.

In general, the lower the returns on your portfolio, the better off you'll be spending down your savings while you wait for benefits to kick in at age 70. If your savings are just keeping pace with inflation, you'll be better off waiting for the age 70 payout, if you live past the age of 83.4 years. If your portfolio is earning a real return of 2.5% annually, your "breakeven" age is 87.25 years. In other words, you will be better off with the age 70 benefit if you live longer than 87 years and 3 months --assuming an average bond yield on your nest egg.

If you think living into your 80s or 90s in improbable, you may want to think again. Americans are living longer. The American Society of Actuaries reports that a 65 year-old male has a 50% chance of surviving until age 85. Women fair even better. At age 65, the average woman has a 50% chance of surviving until age 88. Taken as a couple, there is a 50% chance that one spouse will survive to age 92. With the improvements in medical technology, these numbers are likely to climb even higher.

Waiting for the higher payout is like buying longevity insurance. By delaying benefits until age 70, you can better protect yourself from outliving your money. And remember, for each year you delay taking the benefit, your 'insurance policy' will give you an 8% benefit increase plus cost of living adjustment. Even an aggressive stock portfolio would struggle to match those returns!

One further reason to wait for the higher payout is to protect your surviving spouse from running out of money. Social Security pays spouses a survivor's benefit ranging from 75% to 100% of the original benefit amount. By taking the later payout at a higher rate, you will ensure a higher survivor's benefit for your spouse and any dependents after your death.

The best way to stay both physically and financially healthy is to keep working at least part time until age 70. By working, you stand to make a paycheck and to grow your social network. Plus, you won't need to dip into your investment portfolio. In the mean time, the interest you earn on your investments between the ages of 65 and 70 will do more to boost your bottom line, more than any Social Security payout strategy ever could.

There are other reasons to be wary of the early payout. Retirees who both work and receive benefits before they reach full retirement age may see their benefits dramatically reduced. Until you reach full retirement age, your benefits will be docked $1 for every $2 you earn above an annual limit. In 2007, the limit is $12,960. But, once you reach full retirement age, you will no longer be penalized for working.

Furthermore, don't be tempted by the myth that you can beat the system by taking the early benefit and investing it. To break even with this strategy, you will need to earn an 8% real return above inflation. If inflation is running at 4%, you will need to earn a 12% annual return just to keep up. Trying to earn a 12% return year after year in your own portfolio is a very risky proposition. Chasing after double-digit returns when you could simply delay your guaranteed benefit and watch your future pay increase by 8% over inflation is a fool's bet.

There is one main exception to this rule. For some, poor health leaves them with little option but to begin receiving the benefit as early as possible. Seniors struggling with poor health may be wiser to take the earlier benefit, assuming they may not live long enough to make the higher payout worth the wait.

Likewise, if you are much younger than your spouse and your spouse's income was larger than yours, you may want to start taking Social Security early. If they predecease you, your benefit will be increased. For everyone else, the early payout may just be a bad choice.

You should consider carefully when you take Social Security benefits and seek professional advice for your specific retirement path.

10 Retirement Pitfalls, Pitfall #10: Investing Too Aggressively

Yahoo has a list of 10 retirement pitfalls and I'm going to list and comment on them all. Here's today's pitfall:

Investing too aggressively: While you don't want to invest too conservatively, you also don't want to be investing in things that promise huge returns but are extremely risky. You should determine a set amount of money each month to put into something like a stock index fund for your retirement. If you can spare more money after you have contributed to the retirement fund, it is acceptable to invest in something a bit more risky. However, you don't want to be risking the main portion of your retirement money in risky investments that could very well leave you with no money in the end.

If anything, I could be a bit too aggressive in my investments. Not that I'm investing in Russian oil futures or pork bellies in Columbia. And it's not that index funds are that aggressive. But my asset allocation is almost 100% stocks. I'm moving more into bonds to be a bit more balanced, but if anything, I'm being a bit too aggressive currently. That said, I do have a long investment horizon (20-25 years) and I can handle the market ups and downs (remember the internet bubble? I rode that one all the way down -- buying all the time) so I can afford to be a bit more aggressive than most.

For more thoughts on investing, see these links:

• A Simple Way to Cut Costs and Improve Your Investment Return

• An Example of the Power of Compound Interest

• Savings Smackdown: Which is Better -- Pre-Paying a Mortgage or Saving for Retirement?

Click here to read part 1 of this series.

10 Retirement Pitfalls, Pitfall #9: Investing Too Conservatively

Yahoo has a list of 10 retirement pitfalls and I'm going to list and comment on them all. Here's today's pitfall:

Investing too conservatively: Investing too conservatively in your retirement fund means that you will not grow it adequately to meet your needs when you retire. You need to take into account that over time, inflation will take part of the purchasing power away from your retirement fund. As you get closer to retirement, you can make your investments more conservative, but in the early years you want to make sure that you are not investing too conservatively to yield the gains you need for retirement.

For me, investing means stocks and, in particular, index funds. I have a long time horizon and am not afraid to take some risks. If anything, I may be a bit too aggressive as I'm almost completely in stocks and have little in bonds.

For more thoughts on investing, see these posts:

• Portfolio Rebalancing Boosts Returns

• Key to Investing: Start Early

• The Greatest Enemy of a Good Investment Plan

Click here to read part 10 of this series.

Click here to read part 1 of this series.

10 Retirement Pitfalls, Pitfall #8: Failing to Take Advantage of IRAs

Yahoo has a list of 10 retirement pitfalls and I'm going to list and comment on them all. Here's today's pitfall:

Failing to take advantage of IRAs: You should be taking advantage of IRAs from the day that you are able to. If you fail to do so, it can be a huge blow to your retirement savings, since there is a limited amount that can be invested each year. IRAs are set up specifically so that you can maximize the amount that you have when you retire, and if you forgo them in your early years, you will do great damage to the amount available in your retirement fund when you get older.

The question for many people is not "should I invest in an IRA?" but rather "which IRA is best for me?" That's been a source of much discussion here at Free Money Finance, and for various thoughts, see these links:

• Retirement Smackdown: Which is Better -- Traditional IRA or Roth IRA?

• More on Traditional IRAs Versus Roth IRAs

Click here to read part 9 of this series.

Click here to read part 1 of this series.

10 Retirement Pitfalls, Pitfall #7: Neglecting Insurance

Yahoo has a list of 10 retirement pitfalls and I'm going to list and comment on them all. Here's today's pitfall:

Neglecting insurance: Insurance exists for a reason: to protect you against an unlikely but high-cost event such as a fire, an unexpected serious illness, a natural disaster or a major auto accident. People who forgo insurance in an attempt to save money run the risk of putting their entire retirement savings in jeopardy if an unfortunate event takes place in their lives. You want to make sure that you are adequately insured to prevent this from happening.

Ok, I'll admit it -- insurance is one of the most boring financial topics to discuss, plan for, consider, write about, etc. But did you ever notice that often times the issues that are the hardest to deal with are also the most important? Thus is the case with insurance. That's why I regularly write about the topic (though probably not as frequently as I should). It's also why I carry medical, car, home, life, and disability insurance.

As stated above, without insurance only one major accident or illness can wipe out your entire savings and thrust your retirement into an uncertain future. Thus, having adequate insurance coverage is one of the major keys to ensuring you have a great retirement.

For more thoughts on insurance, check out the following links:

• Why You Need Disability Insurance

• Three Key Rules for Being Properly Insured

• The Types of Insurance You Need

Click here to read part 8 of this series.

Click here to read part 1 of this series.

10 Retirement Pitfalls, Pitfall #6: Buying More House Than You Can Afford

Yahoo has a list of 10 retirement pitfalls and I'm going to list and comment on them all. Here's today's pitfall:

Buying more house than you can afford: Purchasing a bigger house than you can afford can do huge damage to your retirement fund. This is because you're placing all your money into your mortgage instead of investing a portion of it for retirement. While a house does have some tax advantages on the mortgage loan, they are not nearly as good as the tax advantages of a 401(k) plan or an IRA. It's also much more difficult to get your retirement money out of the house than from a retirement fund. While housing as an investment is something you might want to consider to create more wealth, your own house should not be viewed as a retirement investment, and you should make sure that you can pay your mortgage and contribute to your retirement fund at the same time.

Ha! They're singing my song now!!!!!

Buying a house you can afford is a key part of my formula for buying a house and is also recommended by several financial "experts" including Suze Orman.

Now I must admit that it's tempting to try and buy the biggest house you can afford (we're going through this process now as we look at homes -- trying to balance needs and wants.) But for the sake of your long-term financial health, you must control yourself, take a realistic look at your finances and then decide what size of mortgage you can afford. Because if you stretch too far, you're be tied to a financial anchor for the next 30 years that will pull you down, down, down.

Click here to read part 7 of this series.

Click here to read part 1 of this series.

Traditional IRAs and Roth IRAs: Invest in Both to Diversify Your Tax Risk

In both Retirement Smackdown: Which is Better -- Traditional IRA or Roth IRA? and More on Traditional IRAs Versus Roth IRAs we all discussed the pros and cons of Traditional IRAs and Roth IRAs to try and determine which one was better. In the end, it came down to whether you believed your taxes would be higher in retirement than they are now as to which option was generally better. Predicting future tax rates and well as your income in later years is quite difficult to say the least, so we were at a standstill.

Then, some of the commenters on More on Traditional IRAs Versus Roth IRAs suggested a couple different thoughts -- both of which seemed like great ideas to me. The first was to invest in both a traditional IRA and a Roth to diversify your tax risk. Here's the comment that got things rolling:

Opt for tax-diversity--contribute to both. It seems a lot like guessing to me. Factor in that long-term capital gains (taxable) rates are low, low too, and the picture is even muddier.

This thought was seconded as follows:

I agree with the tax diversity. I asked a CPA on this one as well and I felt that his answer was very good. He said he had worked back in the 1970's when the marginal tax rate was 70% and everyone thought it was going up. If Roths had existed then high income people would have been screwed even though they were listening to sound advice. He mentioned that a bird in the hand is better than two in the bush, basically take the tax break now instead of trying to game the system, because congress could very well repeal Roth tax free status later anyway.

With that being said, I am just starting my career so I want to take advantage of this. My company offers a Roth 401k, but our match is a normal 401k match. This is perfect for me, because it basically splits me between the two theories effortlessly.

There were a few more comments along these lines, but they all point to the same issue: since we don't know what future taxes will bring, let's diversify our investments, putting some into a Roth and some into a traditional IRA. Seems like a logical idea to me.

And then another thought came up, one which, in part, will help people contribute to both types of IRAs we're talking about here. The suggestion:

I agree with the first comment and the last line in FMF's post. Invest in both to hedge against what a future congress will do. Although uncommon, congress has passed laws that retroactively change tax rules (upping the age of the kiddie tax from 14 to 18 comes to mind); so tax planning where you don't reap the benefits decades later carries some risk. Investing in the trad IRA gives you an immediate benefit that you can turn around and invest in the Roth correct?

In my situation, my spouse is a homemaker and we're in the middle of the 28% bracket. Investing up to the max deduction in trad IRA ($4000 for 2006) gave us an extra $1000+ (from the tax deduction) to invest in a Roth.

Great idea, huh?

10 Retirement Pitfalls, Pitfall #5: Counting on an Inheritance

Yahoo has a list of 10 retirement pitfalls and I'm going to list and comment on them all. Here's today's pitfall:

Counting on an inheritance: Counting on an inheritance or some other type of cash windfall for your retirement is playing with fire. While your parents may have a good retirement fund for themselves, there are so many things that can happen to quickly drain that fund. This is especially true if they get sick and have a lot of medical bills or if they need to go into long-term care. You should always remember that their money is theirs and not yours, and they are free to spend it any way that they like. If you do receive an inheritance, it should be looked at as an added bonus. But you should not count on it for your retirement fund.

I believe that in most cases aging parents will be a financial drain on families (as they need extra money for long-term care, medical bills and the like) versus leaving them a windfall. I'm certainly planning on receiving nothing and if need be, I'll certainly make my finances available to provide good care for my parents in their old age.

Click here to read part 6 of this series.

Click here to read part 1 of this series.

10 Retirement Pitfalls, Pitfall #4: Accumulating Credit Card Debt

Yahoo has a list of 10 retirement pitfalls and I'm going to list and comment on them all. Here's today's pitfall:

Accumulating credit card debt: Credit card debt means that you are paying interest to the credit card companies instead of growing a retirement fund. It's one of the worst things that you can do. When you end up paying credit card debt rather than placing the same amount of money into your 401(k) or IRA, your retirement fund will look a lot less healthy in the long run.

Not only that, but when you have credit card debt, compounding is working against you instead of working for you (as it does when you save for retirement.)

Credit card debt can be a killer at any age, but as you carry it through the years and towards retirement, it gets worse and worse. Do yourself, your finances, and your retirement a favor and get out of credit card debt and resolve never to get into it again.

For more thoughts on this topic, see these posts:

• 7 Credit Card Trends that Can Cost You

• Strategies for Dealing with Credit Card Debt

• Get Out of Debt

Click here to read part 5 of this series.

Click here to read part 1 of this series.

How to Retire in Your Late 30's

Now that title got your attention, didn't it? ;-)

Here's a brief piece from Kiplinger's about a couple who retired in their late thirties. Their story:

Eighteen years ago, when Billy and Akaisha Kaderli were in their late thirties, they decided they were working more and enjoying it less. So Billy, a stockbroker, and Akaisha, a restaurant owner-turned-office manager, vowed to save enough money to retire in two years. And they did. "Every time I looked at a latte or a new pair of shoes, I decided I didn't need them," says Akaisha. "I'd say to myself: I could either buy this or be days closer to our goal." By 1991, Billy and Akaisha had accumulated about $500,000, including a $100,000 profit from the sale of their home. They put their belongings in storage and set out to see the world.

What was they key for them (both getting to retirement and living through it?) Spending less than they earn. In fact, they spent waaaaaaay less than they earned to get to retirement in the first place, and they spend a very small amount even now -- 16 years later. Specifically:

Billy and Akaisha limit their expenses to about $24,000 a year. They eat well and enjoy themselves but don't buy a lot of stuff. "We base our lives on gathering experiences rather than collecting things," says Billy.

In addition to spending less than they earn, they also get high marks from me for how they invest:

The couple invests mainly in low-cost index funds, withdrawing about 3% of the balance each year.

;-)

So let's get this straight, here are the keys to retiring early:

1. While you're working, spend dramatically less than you earn in order to rapidly fund your nest egg.
2. Once you reach the amount you need, invest it wisely so it grows at a good rate.
3. Live frugally in retirement so you're only spending a fraction of the nest egg.

This is in contrast to how people are supposed to save for a "conventional" retirement (at 65):

1. While you're working, spend less than you earn in order to fund your nest egg.
2. As you save, invest your money wisely so it grows at a good rate and starts compounding.
3. Live on 70%-100% of your pre-retirement salary in retirement -- still only spending a fraction of the nest egg.

I'll fall somewhere between the two of these -- hopefully retiring at 55 or so with fully-funded retirement savings.

Now, contrast these options with how most people are saving for retirement:

1. While you're working, spend a bit less than you earn in order to put something away.
2. Work past 65 because you can't afford to retire.
3. Eventually retire because your body gives out and live on the meager amount you've saved, Social Security, and off your kids.

Which option are you working towards?

10 Retirement Pitfalls, Pitfall #3: Missing 401k Matches

Yahoo has a list of 10 retirement pitfalls and I'm going to list and comment on them all. Here's today's pitfall:

Not taking advantage of 401(k) matches: If your company provides matching funds for your 401(k) contributions, then not contributing -- or undercontributing -- is the same as throwing away free money. You should be taking full advantage of these matches from Day 1. Even when money is tight in your first years in the workforce, contributing up to the amount matched by your company in your 401(k) plan should be a top priority in your budget.

Ok, look at it this way. I'll give you $1 of my own for every $1 you save. How much would you save? Right -- as much as you possibly could! Why? Because it's a 100% return on your money guaranteed. It's hard to find anything close to that rate of return that's still legal in the U.S. ;-)

Not putting the max in your 401k to get the complete employer match is one of the great crimes against your personal finances and retirement. Don't be guilty of committing it!!!

For more on this topic, see these posts:

• Some People Think a 100% Return on Your Investment Isn't Enough

• The Best All-Around Retirement Account

• Why Contributing to Your 401k is Vital to Your Financial Health

Click here to read part 4 of this series.

Click here to read part 1 of this series.

10 Retirement Pitfalls, Pitfall #2: Waiting to Save

Yahoo has a list of 10 retirement pitfalls and I'm going to list and comment on them all. Here's today's pitfall:

Believing it's OK to wait: The magic of compounding interest is an important factor in growing your retirement fund. Even when you save small amounts in your early work history, the returns earned on that money will build on the base and, over time, will likely help you come out much further ahead than if you wait until later in life to begin your retirement savings. You should begin contributing to your retirement fund as soon as you begin your first job out of college (if not sooner). This will make the question of whether you're contributing enough to your retirement fund a non-issue in later years.

What they said. DO NOT WAIT!!! Save now! Invest now! You want the power of compounding and time to work for you -- the more time the better!

Don't beat yourself up if you've "wasted" several years and haven't saved for retirement. There's nothing you can do to change the past. But you can make your retirement the best it can be and the way to do this is by starting to save now. Save early, save often and never stop.

So, do you think I made my feelings clear on this issue? ;-)

For more on this issue, see these links:

• An Example of the Power of Compound Interest

• The Richest Man in Babylon, The Power of Compounding

• How to Retire Rich: Use the Power of Compounding

Click here to read part 3 of this series.

Click here to read part 1 of this series.

10 Retirement Pitfalls, Pitfall #1: Putting College Savings Ahead of Retirement

Yahoo has a list of 10 retirement pitfalls and I'm going to list and comment on them all. Here's today's pitfall:

Setting money aside for college ahead of retirement: Many people decide that placing money into their children's college funds is more important than placing it into their own retirement fund. This is rarely a good idea. While it is possible to get loans for college, the same can't be said about retirement. Make sure that you contribute to your retirement fund first, and then work on providing some help for your children's college education.

You know what they say in an airplane emergency briefing? "In case of loss in cabin pressure, an oxygen mask will open in front of you. For those of you traveling with small children, secure the mask over your face first before assisting the child." (Or something similar.) Why do they do this? Because if you fall unconscious, you'll be of little help to the child who really needs you.

It's the same way with saving for retirement before college. You must have your own financial house in order before you can really help out anyone else. Otherwise, there will be great financial pain for both of you when you retire.

Look at it this way: Junior can borrow for college -- an expense that's big (but not enormous) and which can be paid off over 50 years if need be (though I don't recommend that.) You, on the other hand, have and expense in retirement that is several times larger and you have half the time to save for it. Now, which do you think is more important?

For more thoughts on this topic, see these links:

• How Much You Need to Save for Your Kids' College Expenses

• Save for Retirement before College

• More on the Financial Tsunami Waiting for Us All

Click here to read part 2 of this series.

More on Traditional IRA Versus Roth IRA

I had a good comment to my post titled Retirement Smackdown: Which is Better -- Traditional IRA or Roth IRA? that I thought was worth sharing with all of you:

There are three advantages of the Traditional IRA that are not usually mentioned by financial planners, most of whom seen to promote the ROTH as always superior.

1. If you build up years' worth of contributions in a traditional and then one year decide that the ROTH would be now more appropriate, you can convert amounts from the traditional to the ROTH. However you can't do the same with the ROTH. If you make nothing but ROTH contributions for many years you can't suddenly convert those prior year contributions into a traditional IRA.

2.Traditional IRAs are often more favorable from a state income tax perspective. In Michigan for example your traditional IRA contributions decrease your taxable income in the year you contribute and once you hit 60 years old your distributions are not taxed. ROTH IRA contributions will not lower your taxable income. Thus you get tax benefits twice with the traditional versus only once with the ROTH.

Also many people have to live in high tax states like Ohio during their working years because they are tied down to a particular job but in retirement they can be much more flexible about where they live and move to a state with low or no income taxes like Florida. Such people would benefit more from a traditional IRA because they would avoid tax on both the contributions and withdrawals.

3.Traditional IRAs give you a tax deduction now. Congress can't decide years later to retroactively eliminate this deduction. However ROTH IRAs only give you hypothetical tax benefits years into the future. If the ROTH IRA fell out of favor with lawmakers, your ability to take tax free distributions from your ROTH could come to an end. Former Democratic leader Dick Gephardt is one prominent example of a politician who hates the ROTH and wants to see it eliminated.

The main advantage I see with the ROTH is the ability to take out contributions tax and penalty free during your working years. This makes the ROTH a good hidden emergency fund. For several years in my early twenties I contributed to a ROTH for this reason. Now that I have a comfortable savings cushion and a higher income I am going the traditional route.

So sometimes the ROTH is better and sometimes the traditional is better. There is no one size fits all answer.

I used to think that in almost all cases the Roth was the preferred option, but I think I'm now leaning towards the position that these two are a wash (either is equally good) unless you have a specific financial situation that tilts the odds in favors of one of them.

Any other thoughts on this?

Another Financial Advisor Can't Manage His Own Finances (Don't Worry, No One Else Can Either)

When I wrote Would You Take Advice from a Financial Planner Who was Doing Poorly Financially Himself? I said I wouldn't take financial advice from someone who wasn't doing well himself. Yeah, he may have some head knowledge, but if he's missing the second vital part of the equation, the ability to practically implement his own advice, I don't want him within a mile of my finances.

An illustration of this is a story I found on MoneyCentral that's about how couples these days have to be creative to make ends meet in retirement. Let me set the stage:

Having spent much of his career helping others with their finances, Don Peterson knew the importance of saving as much as possible before retiring. But when the stockbroker left the work force in 1988, he realized that retirement wasn't just about money.

Ok, here are the facts:

• The guy "spent much of his career helping others with their finances." Yeah, right. I hope they ended up better than he did.

• He "knew the importance of saving as much as possible before retiring." So he knew what to do.

• He was a stockbroker. So he's not a straight financial planner, but he's certainly a financial advisor -- telling people what to do with their money.

Here's what happened. MoneyCentral says that when they retired, Don and his wife "had less than $100,000 in their accounts and just one pension between them -- hers, which paid out only around $500 a month. Their challenge was one that millions of older Americans are faced with every day: finding a way to lead a comfortable and, yes, happy retirement with only a modest nest egg."

So the guy is dishing out financial advice and ends up scooping cat poop to make ends meet in retirement? Is this the type of person you want telling you what to do with your money?

Unfortunately, poor Don isn't alone. In fact, he's pretty average when it comes to saving for retirement (though you'd hope he would have done better given the profession he was in.) Here are some stats on how the population at large is doing when it comes to saving for retirement:

For the vast majority of today's older workers, this is the reality of retiring in America. While financial planners and retirement experts debate how many millions of dollars families should save -- and how to invest that money to make it last -- most households are retiring on meager sums. Nearly two-thirds of workers 55 and older have less than $100,000 saved for their golden years, according to a recent study by the Employee Benefit Research Institute. And 56% of those workers who are already retired have less than $50,000 to last them for the rest of their lives.

There's not a lot for me to say other than what I've already said on these issues. On financial advisors, check these out to see my thoughts:

• Why Your Planner Wants You in Debt

• Shocker: Many Brokers Give Bad Advice

• Thoughts on Financial Advisors

And some thoughts on retiring:

• Retirement Nightmare: We Aren't Saving Enough

• Don't Plan on Working Longer to Make Up for Small Retirement Savings

• Americans Deluded about Retirement Prospects

More on Traditional IRAs Versus Roth IRAs

So, the question remains as to which is better: a traditional IRA or a Roth IRA. The former gives you a tax break this year and tax-deferred earnings, but taxes you at withdrawal. The latter doesn't give you anything now (you contribute with post-tax money) but earnings are tax free. The correct answer seems to depend on a couple factors: 1) your specific situation and 2) what tax rates will be in the future. It's likely that point #1 can be of some help, but we're all merely guessing at point #2. The general thinking is that tax rates as a whole will likely be higher when we all retire, but that we'll also be in lower tax brackets then too (since we'll earn less.)

So with everything clear as mud, I thought I'd post two (somewhat) different viewpoints on the issue that were listed as comments to my post titled Retirement Smackdown: Which is Better -- Traditional IRA or Roth IRA? First, here's a comment favoring the traditional IRA:

The vast majority of people will be in lower tax brackets at retirement so would do better with a Traditional. They are, however, the ones that likely aren't saving anyway, so those that are saving may well prefer a Roth.

This (at least the first part) is what my line of thinking has been recently as well. But then, we had this comment:

One more thing to add. The assumption that your income tax rate will be lower in retirement is really faulty. I am a CPA so let me show why.

1 - Incomes tax rates are at historic lows right now

2 - Things people don't consider in retirement that I see with my clients all the time - you will likely be single (widowed or divorced) much of retirement, which today would mean if you had 1/2 the income you had as married you'd still be in the same tax bracket. You brush up against the next higher tax bracket a LOT sooner when you are single. That's unique to today since the marriage penalty was removed though, and will probably be back soon enough. Hard to explain, but makes a difference for now, maybe not for the long-term.

More importantly, in retirement you expect to make a lot less money, but you also lose most of your tax deductions. Just because your income is lower does not mean your taxable income is lower... Most of my six-figure working clients with families are in the 15% tax bracket these days while most my $50k/year retiree clients (most who are divorced or widowed) are in the 25% bracket. The difference is simply the amount of tax deductions.

So the real answer is still somewhat unclear. Could it be that they are equally good based on the fact that we can't accurately predict taxes?

For some additional thoughts on this topic, see these links:

• Roth IRA Versus 401k -- Which is Better?

• How to Maximize Your Retirement Savings

• Save a Little Bit a Day and Become Rich

How to Save on Health Care Costs in Retirement

Here's a Yahoo interview with personal finance author and radio host Jennifer Openshaw where she lists some thoughts on how to save on health care costs in retirement (read down the page a bit). Her suggestions:

First, look for a group plan through a professional organization. There are a wide variety of member associations offering group health insurance to their constituents. If you're not a member of a professional organization, it may be worth it to join for those benefits.

Second, check your spouse's health insurance. Often, a spouse can start his or her own venture thanks to the health insurance the other spouse enjoys through an employer.

Also, don't forget COBRA. Federal laws require most employers to offer their employees access to COBRA for 18 months after leaving the job. The caution here is that COBRA only grants you access to the group policies -- you are still required to pay the full premiums. Those COBRA premiums may be more than what you'd pay on the individual market.

Finally, health savings accounts, or HSAs, are a new tax-friendly vehicle aimed at encouraging people to save for their own health-care costs. You invest pretax money in a health savings account and all the money you take out of that account -- including your untaxed contributions and any gains you earn on those savings -- comes out tax-free as long as you spend the money on health-care costs.

Yep, we've only seen the beginning of the "how to save money on health care during retirement" money saving suggestions. This thing is going to keep growing for the foreseeable future. Think this might be part of the answer?

For more thoughts on retirement and health care, see Healthcare Costs Forcing Baby Boomers into Bankruptcy and The Biggest Financial Issue in Retirement: Healthcare.

And for some extra ways to save on health care costs (and all other costs as well), see 301 Saving Money Posts -- Hundreds of Ideas on How to Save Money.

Retirement Nightmare: We Aren't Saving Enough

I recently ran into this piece on Yahoo titled Your Retirement Nightmare. It contrasts the perceptions of retiring today with the realities of retiring (in the piece, I think they've actually mixed up some of the perceptions and realities, so take note in you read the piece.) They cover several retirement-related issues, but one of them stood out to me in particular -- how much we're saving for retirement. Here's the situation:

Without a pension plan to rely upon, workers must increasingly save for their own retirement. That means stashing a lot of money into accounts like IRAs and 401(k) plans, which offer tax breaks for saving.

But here's what is happening:

Almost half of workers saving for retirement report that they have less than $25,000 saved or invested for retirement. (That doesn't include home equity or the value of any pension benefits that may or may not be coming their way.) Less than half of us have attempted to calculate how much we'll need in retirement.

Anyone surprised here? I'm not.

What's my suggestion for those not yet saving for retirement (or those that think they may be saving too little?) Set your retirement number (here's how I set my retirement number) and start saving now to get yourself to your goal. The sooner you get started, the sooner compounding can start working for you to grow your retirement nest egg.

For more thoughts on planning and saving for retirement, see these links:

• How to Maximize Your Retirement Savings

• Don't Plan on Working Longer to Make Up for Small Retirement Savings

• Americans Deluded about Retirement Prospects

• Healthcare Costs Forcing Baby Boomers into Bankruptcy

Savings Smackdown: Which is Better -- Pre-Paying a Mortgage or Saving for Retirement?

I've gone on record quite a few times saying that I'm in favor of people paying off their mortgages. That's what I did personally, it's worked for me, and that's why I recommend it. In addition, I've seen numerous people who have decided not to pay off their mortgage and "invest" instead blow it by spending the extra money instead of investing it. Come to think of it, I've NEVER seen anyone successfully do it. So, while in theory it may be better to invest extra money versus paying off a mortgage (I'm not saying it is or isn't at this point), the practicality of the issue tilts in favor of the mortgage pre-payment option.

That said, I recommend several other financial moves that take priority over paying off your mortgage. Like what, you may ask? Like contributing to your 401k to get the full employer match, paying off your credit cards, and paying off any other debt that has a higher interest rate than your mortgage. After these, paying off your mortgage is a viable option.

But which is better even at this point -- saving more for retirement or pre-paying the mortgage? Well, a new study attempted to answer this question and they came to this conclusion:

Although mortgage rate, income tax brackets, and 401(k) contribution limits varied among households, in about 40 percent of the cases putting the money in a retirement fund beat paying the mortgage off early, the study found.

Said another way, the pre-payment option was better in 60% of the cases.

But the results aren't totally clear. Consider the following:

Amromin says the study probably underestimates the number of households that would benefit from switching a mortgage prepayment into a tax-deferred retirement account, because the researchers made a number of conservative assumptions:

• They assumed investors didn't get a 401(k) match from their employers. In reality, more than 90 percent of plans managed by Vanguard, one of the largest 401(k) administrators, offer a match.

• They presumed the investor would put the money into a low-risk investment -- Treasury bonds or highly rated mortgage-backed securities. Someone investing in equities would likely do better: Between 1926 and 2003, stocks returned an average of 10.5 percent a year on investment, while government bonds averaged 5.45 percent, according to Ibbotson Associates.

• They assumed individuals had a constant income tax rate over time. But retirees often slip in a lower tax bracket, making 401(k) contributions during peak earning years even more valuable. According to Federal Reserve data, 41 percent of households are in the top tax bracket before retirement, while only 18 percent are after retirement.

• The researchers excluded state tax obligations, which would also make the tax-advantaged features of the 401(k) more worthwhile during peak earning years. Currently, 43 states impose an income tax.

In the scenario I propose, item #1 wouldn't apply since I recommend contributing to get the full match before pre-paying a mortgage. But the other three are good points -- and are ones that likely make the saving/investing option a much better option financially for most people as long as they can actually do it (in other words, as long as they can save the money versus just spending it.) It's all good in theory, but from what I've seen it's not executed well practically. I'm not sure I could do it (and keep up with it) and I'm pretty disciplined. Maybe if I made the savings automatic there would be no way to mess this up.

And then there's the "touchy-feely" benefit of feeling better because your house is paid off. This is not a big issue for me (though I must admit that not having a payment every month is great) but is huge for some people.

So which is better? Well, if you have the discipline to save/invest the money you would be using to pay off the mortgage, it's likely that saving/investing is the better option. But if you're more the "average" person out there managing your money, I still believe it's a better option to pre-pay your mortgage.

Retirement Smackdown: Which is Better -- Traditional IRA or Roth IRA?

I believe (from what I've read) that it's "traditional wisdom," "common sense," or a "best practice" (whatever you want to call it) for most people to fund a Roth IRA over a traditional IRA. At least that's what I seem to see all over the place -- maybe I'm wrong, please tell me if I am. The reason I'm now questioning which is the better option is this piece from Yahoo that compares the traditional IRA Versus Roth IRA and declares the former the winner. The details:

Although a tax-free retirement sounds good, saving taxes today sounds better. Using your 25 percent tax bracket as an example, in order to put $4,000 into a Roth IRA today, you would have to earn $5,333 and give the IRS $1,333 to keep the full $4,000 in your retirement account.

To put $4,000 into a traditional deductible IRA, you only need to part with $3,000 because, in a sense, the IRS is giving you $1,000. Remember that by contributing $4,000 to your IRA pretax, you are lowering your income by $4,000 for income tax purposes. So you're not paying 25 percent of that in taxes.

In both situations, you still have $4,000 in savings but it cost you $2,333 to get the Roth. It sounds like better business for the IRS than for you. By making the traditional deductible IRA, you're getting a 58 percent return on your investment of $4,000. It's better than the bank will return in the first several years. I may be double dipping in my calculation on the savings, as you're only really getting the 25 percent return when you make the deductible IRA, but the spread in taxes is still $2,333.

And then, of course, there's the issue of taxes when the money is withdrawn -- the Roth will have none while the traditional IRA will. But will the benefits here be enough to make up for $2,333 in savings compounded at 8% for 30 or 40 years? Seems like they wouldn't.

The article also says there are a lot of variables to consider that could skew this decision one way or the other. The #1 issue is what tax rates will be in the future. In addition, the investor can convert a traditional IRA to a Roth IRA at some point.

So, what's your take on this? Is there one answer to "which is better" that's USUALLY correct (I know there won't be one that's always correct.) I'm really interested in your thoughts on this one.

Husbands and Wives on Different Pages When It Comes to Retirement

Here's a real shocker -- husbands and wives often have vastly different ideas on what their retirement will be like. Ha! Re-read that last sentence and replace "retirement" with anything else (like "vacation," "weekend," "entertainment" and so on) and it will be just as accurate. ;-)

But here are some hard facts from Yahoo on the issue as it relates to retirement:

Among more than 30% of couples, husbands and wives had completely different answers when asked about the age they plan to retire, what kind of lifestyle they expected in retirement, and whether they planned to keep working in retirement.

Only 39% of couples gave matching answers when asked which source of income would be their primary livelihood in retirement.

This isn't really a shocker to me. After all, usually one person in the family has complete grasp of the finances and the other simply knows the generalities. That's the way it is in our house. My wife knows the basics of our plans and where to find documents, etc. in case something happens to me, but she probably wouldn't be able to say what our primary source of income in retirement would be.

And I'm sure we would have different answers on when we expect to retire since we haven't really discussed it. After all, it's still 25 years in the future.

That said, I am a big believer in planning and making decisions regarding finances together -- which is what we do when the need arises. We consult each other when it comes to major purchases (like our pending vacation at Disney and our house-hunting) as well as overall planning (we discuss our budget at the beginning of each year.) But so far, we've held off on discussing the retirement questions noted above. We both do know that we're saving for retirement and, for the most part, how we're saving for retirement, but we haven't gotten beyond that.

I would guess that the closer a couple is to retirement the more agreement there is between the couple. But we're in the lower age level of the survey participants, so my thought is that's why we're not as in touch on this subject as some others.

For more on money and marriage, see these links:

• Financial Planning for the Second Half of Marriage

• Solve Marriage Spending Differences by Having a Personal Account

• The Relationship Between Money and Sex

Roth IRA Versus 401k -- Which is Better?

I've stated before that I think there's a specific order to how most people should save for retirement -- and that starts with contributing to a 401k to get the complete company match. But what if your company doesn't have a match (or what if it does but you've met it and want to know what to do now?) Yahoo addresses the question of which is better -- a Roth IRA or a 401k without a match:

The rule of thumb is that, if eligible, you should contribute to a Roth IRA if your current marginal federal income tax rate is less than the rate you expect to face in retirement.

So, if your tax rate is higher now, go for the 401k (where you get a tax break this year and the money grows tax deferred.) If you expect your tax rate to be higher in retirement, then go for the Roth IRA (where you get no tax break this year but you do get tax free withdrawals.)

So, who has a crystal ball that can see into the future and determine whether your tax rate will be higher or lower in retirement? That's all we need to make this an easy decision. ;-)

A few other comments:

1. The 401k with the match is the winner by far -- do NOT pass it up.

2. For those that don't qualify for the Roth because their income is too high, the question is already answered for you.

Healthcare Costs Forcing Baby Boomers into Bankruptcy

Here's a piece I found on MSNBC that says baby boomers are going bankrupt at faster rate. The reasons for this:

Senior researcher Jose Garcia, who examines consumer finance trends at New York-based Demos, said rising costs for housing and health care, especially prescription drugs, have made older Americans more dependent on credit. This, in turn, makes them more vulnerable to financial rough spots.

I've written before on how I think healthcare costs are going to be the biggest issue in retirement for most of us. Let's face it, people are living longer (requiring more healthcare) and the costs of healthcare is going up and up. So if you need something longer than in the past and it's more expensive in the past, you've got a big and growing financial commitment just waiting for you.

How will this impact retirement saving? I think that the historical estimates of people needing 70% to 80% of their pre-retirement salaries while in retirement will be a thing of the past. Look for 100% to be the new standard before long. Translation: we all probably need to be saving more for retirement.

Don't Plan on Working Longer to Make Up for Small Retirement Savings

Here's a piece from Kiplinger's that bills itself as the late bloomer's guide to saving. In other words, if you're behind on your retirement savings, this article has some suggestions for how to make up the difference. Overall, it's a pretty weak piece (not very many great ideas here), but it does discuss the notion of "working longer" as a way to make up for retirement savings shortfalls -- an idea that many people seem to be planning on. While the author says that this method will certainly help, it's not certain that it's even an option for many of us:

But basing your retirement plans on working longer could be a gamble. “The big assumption is that both you and the job market for seniors will be healthy,” says Rande Spiegelman, vice-president of financial planning for Charles Schwab. A more prudent course is to cut spending now and boost savings while you can, rather than being forced to do so later. Otherwise, says Spiegelman, “it could be like going from driving a BMW to riding the bus.”

Here's what I suggest:

1. Estimate your retirement number now and start saving for it immediately. Act as if you'll need to quit working at 65. And if you don't have to and want to work longer, consider that a bonus.

2. If you're behind on your savings now, there aren't many choices other than to cut spending and increase income -- and put the new-found money into retirement savings. Here are some ideas for making more money (plus some more here) and here are some on how to save more money.

For more on retirement savings, see these links:

• How Much You Should Be Saving

• How to Maximize Your Retirement Savings

• Will You Be Able to Work in "Retirement?"

How Much You Should Be Saving

Here's some advice on how much each of us should be socking away in savings from the book The Net Worth Workout: A Powerful Program for a Lifetime of Financial Fitness (see my rating for details):

Generally speaking, I think that a good goal is to be saving 10 percent of your gross income by the time you're thirty years old. If you're a woman, I'd suggest you shoot for 12 percent, because women tend to earn less, live longer, and pay more for products and services like haircuts and drycleaning.

Incidentally, when I say 10 percent (or 12 percent), I'm not including whatever your company may match for your 401(k) plan. Because the company match is "free money" from an outside source, it's not really coming from you. It's best to use the company's match as part of your total savings cushion.

My thoughts on this:

1. As a GENERAL rule, I'm ok with 10% of gross (not net) income. However, I prefer people go to the trouble to estimate the actual expenses of what they are saving for (retirement, college, etc.) and then save accordingly. This may put them at 6%, 9% 12% or 15%. That's ok to me -- it's a better estimate of what they'll actually need.

2. I think it's ok to count 401k money as long as it's yours (in other words, as long as you're vested for the amount in your plan.) What's it matter what the source is, it's still your money isn't it?

3. I've been at the 15-20% level of savings for several years now -- and 10-15% before that. It takes a lot of money to save for something like retirement (as I found out when I set my retirement number) so even while I'm saving a high percentage, I need to.

For more on saving for retirement (the biggest savings expense most of us will have) see these posts:

• How to Maximize Your Retirement Savings

• Save a Little Bit a Day and Become Rich

• Saving Ten Percent of Your Salary for Retirement is Not Enough

• Facts on Retiring Early

The Biggest Financial Issue in Retirement: Healthcare

The costs of healthcare continue to skyrocket with no end in sight, and it appears that this one issue is starting to dominate retirement planning and savings strategies. Here's the scope of the issue from Yahoo:

Since 2002, Fidelity Investments has estimated what the average person starting retirement will need to pay for healthcare costs. This year, the average amount for a couple, both age 65, is $215,000, up 7.5 percent from $200,000 last year. That assumes they will not have health coverage provided by a former employer.

A couple who earned $60,000 a year before retiring can expect to devote 27 percent of their Social Security benefits to health care this year, and as much as 50 percent 16 to 18 years from now, according to Fidelity's estimates.

Yes, healthcare costs are large and growing. It's almost amazing to watch -- there seems to be no hope of them slowing in the foreseeable future and they've already been increasing rapidly for years. Here's how the $215,000 will be spent:

• Medicare Part B and D premiums, which account for 32 percent of the total
• Medicare co-payments, deductibles, co-insurance and other cost-sharing items, which account for 35 percent
• Prescription drugs, which account for 33 percent

And just in case you were wondering, these estimates don't include the cost of long-term care. Tack that on to this bill and it can jump dramatically.

So, what's a person to do? Quite simply, it means most of us will need to raise the amount we're saving for retirement. Instead of planning to save enough to cover 70-80% of pre-retirement living costs, we may need to up that to 90-100% of costs. Or you can do what I did when I set my retirement number and that's to do an estimate of what you think you'll need in retirement expense by expense (not just taking a percentage of your current expenses) and plan from there. Just be sure you factor in the rising costs of healthcare and set the number accordingly.

Americans Deluded about Retirement Prospects

Every once in awhile I run into an article like this one from Yahoo that shows there is a vast difference between what people think their retirement will be like and what their current savings says it will be like. The summary:

More than seven in 10 Americans are either "very confident" or "somewhat confident" they will have enough money to live comfortably throughout their retirement years.

Yet almost half of workers have less than $25,000 -- excluding their primary residence or any defined-benefit pension plans -- salted away for the so-called golden years, according to the 2007 Retirement Confidence Survey released this week by the Employee Benefit Research Institute (EBRI).

I'm not surprised. There seems to be a large gap between expectations and reality for Americans on several financial fronts: debt, savings, investing, college savings and now retirement.

The piece then goes on to give some suggestions on how people should prepare for retirement including these:

1. Crunch the numbers

2. Calculate life expectancy

3. Calculate health expenses in retirement

4. Don't succumb to advertising that promotes spending

I've done all of these. In particular, I set my retirement number a few months ago and continue to save every month towards reaching it. It certainly takes a lot of money to retire the way most people would like, so if you've been ignoring this important part of financial planning, I suggest you get up to speed on your savings options, make a plan, and get going. You may want to start by reading some of my most popular posts on retirement.

How to Maximize Your Retirement Savings

In Six Key Principles of Saving for Retirement, Ben Stein details the six principles that will help you maximize your retirement savings. They are:

1. How much you save.

2. How long you give your savings to compound.

3. How you allocate your assets.

4. How much your investment returns annually.

5. How low you keep your fees and costs.

6. How closely you keep an eye on taxes.

My thoughts on these:

1. I've written on these topics before, so there's no need to cover them in a new post. But for those interested in details, here are some links you'll be interested in:

• How to Retire Rich: Use the Power of Compounding

• The Richest Man in Babylon, The Power of Compounding

• The Richest Man in Babylon, The Power of Time

• What is Investment Rebalancing and Why You Need to Do It

• Costs Matter If You Want to Maximize Investment Returns

2. To me, #3 and #4 and #5 and #6 should be combined. Both #3 and #4 deal with maximizing your total return on the "earning" side while both #5 and #6 deal with maximizing your return by keeping various costs as low as possible. In fact, you could combine all four into one tip that simply said "maximize your investment return."

3. These reasons are why I invest in index funds.

4. In a nutshell, save as much as possible for as long as possible with the highest return as possible.

Save a Little Bit a Day and Become Rich

I recently found this article from David Bach on how to save money (primarily for retirement) and really appreciated his insight here:

Learning to save is a lot like running a marathon -- you need to build up to it by training gradually. It's too overwhelming to go from saving nothing to saving $2,700 a month, so you need to start slowly and keep it simple.

Consequently, I asked Harriet if she could save $10 a day. She felt that was totally doable -- I even got her to agree that she could get her husband to save $10 a day. That adds up to be $7,300 a year.

If Harriet paid herself that $7,300 and put it in a solid, diversified investment that earns 10 percent (less than the stock market has averaged since 1926), she would have $461,947 in 20 years

It also turns out that Harriet's employer offers a 401(k) plan that matches 50 percent of what each employee contributes. That $20 a day she saves plus the 50 percent match equals $30 a day, which adds up to $10,950 a year -- which, at a 10 percent annual return for 20 years, would give Harriet a grand total of $692,924.

The point I love about these thoughts is that even if you can only save a little each day, it will add up to a large sum if you do it for years and years. That's why it's sooooooooo important to start saving early -- even if it's only $1 a day -- it will add up to a fortune over time. So if you start at 22 when you get out of school and earn 8% on your investments, here's what you'll have at age 62 at the following savings levels:

• Saving $1 per day turns into $94,556
• Saving $5 per day turns into $472,778
• Saving $10 per day turns into $945,556
• Saving $20 per day turns into $1,891,113

Now for most of us, it's too late to get 40 years of savings (unless we started 20 years ago) but this is certainly a reasonable amount of savings time for your kids. Teach them the power of saving over time and when they hit retirement, they'll thank you again and again.

Why Social Security is a Rip-Off -- Especially for Higher Income Workers

Yes, I'm on a "bash Social Security" kick lately. I don't know why, I guess it's just something about paying tens of thousands of dollars into something with the hopes of seeing a fraction of it back at best that irks me. Then I see this article on whether or not people can survive on Social Security and I get more irked. In particular, here's the part I dislike:

The "replacement rate" -- how much of a worker's income is replaced by Social Security -- depends on how much you earn:

• For a low-wage earner (average $16,739 annually), Social Security typically replaces 55.9% of your working pay.
• For a medium-wage earner (average $37,198), Social Security typically replaces 41.4% of your working pay.
• For a high-wage earner (average $81,467), Social Security replaces just 28.9% of your working pay.

Being married is better than being single since two checks are, obviously, better than one. Spouses may receive a check based on their own work records or -- if they didn't work or earned less -- checks worth 50% of what their spouses get. That boosts the replacement rate considerably:

• For a low-wage couple, Social Security typically replaces 83.5% of working pay.
• For a medium-wage couple, Social Security typically replaces 61.9% of working pay.
• For a high-wage couple, Social Security replaces 43.3% of working pay.

Ok, so now $81k is a "high wage earner." Soon it's going to be $60k and then $40k. When will the madness end????!!!

Anyway, I'm counting on SS for zippo, but it still depresses me that if I do get anything, it will be only a portion of what I paid in. Seems like I'd be better off with the lottery as a retirement plan.

Before I leave this topic, I have to include one fact that stunned me from this article:

A third of people age 65 or over rely on Social Security for 90% or more of their incomes, the Social Security Administration says. For about one out of five people in that age group, or 22%, Social Security checks are the sole source of income.

This is what I don't want to happen to me or to anyone reading this. Do you want to be at the mercy of Social Security when you retire? Do you want to count on it for all (or almost all) of your income? I'm sure you don't. I certainly don't. That's why I harp (in a kind way) on the importance of saving early and often for retirement. Otherwise, we'll be left to the whim of a system that's on shaky ground and has an uncertain future.

Help a Reader: Invest in a Roth IRA Now or Wait?

Here's a question I received recently from a reader:

I'm a college student (22) who will be graduating in a few months, and I'm just starting to get my finances set up properly. I have a part time job that makes me a few bucks, and I've got about $3,200 in a high interest savings account, some of which I'll need to get myself established after graduation, though I expect I'll also be pulling in a bit from my family at graduation so probably not all of it. I figure that I can throw about $1000 or so into a  ROTH IRA now. After seeing about the difference time makes, it just seems like a wise idea even if I don't have a ton of income right now. Is it worth it to try to deal with fees and restrictions, or should I just wait till I have a full time job? I already have a savings account with Etrade and am considering opening a retirement account with them.

So, what would you suggest he do?

Social Security is Robbing Me of $1 Million; You Too?

On my post titled What is the Most Hated Tax in America?, I had a very interesting comment:

I know it isn't the biggest chunk of change, but what if I could have put my 7.5% plus my employers 7.5% into a mutual fund over the past 15 years? It makes me want to tear my hair out.

I thought this was an interesting proposition, so I decided to tackle it -- what would someone have saved if they had put their FICA tax and their employer-paid FICA tax and invested it instead of paying it to the government. Here's what I did:

1. I found a historical listing of FICA rates on the University of Wisconsin website.

2. These rates break down into two groups -- Social Security Tax (6.2% in 2007 and subject to a wage maximum) and Medicare Tax (1.45% in 2007 with no wage maximum -- though there was a limit up through 1993.)

3. I assumed a person started work in 1963 (the first date on the rate schedule I found) and had an income of $50,000 (good pay level, but not super rich) in the middle of their career (at age 44, 1985.)

4. They worked until age 65 in 2006.

5. They got 4% raises per year. I used this number to calculate the salaries back from $50,000 to the start of their work life at age 22 and to calculate it forward from $50,000 to age 65. Using these numbers, they started their career in 1963 earning almost $22,000 a year and ended it in 2006 making almost $114,000.

6. For each year, I calculated what the employee paid, then doubled it to get the employer share as well.

7. I assumed they saved their share as well as the employer's share each year and got an 8% return throughout the years.

Want to make a guess as to how much their nest egg would be worth when they retired in 2006?

$865,690

Yikes!

This, of course, would be in addition to whatever they had saved from other funds for retirement (like most people do now.) But even if the person saved nothing else, they would have a nice little next egg.

Now let's play with the numbers a bit. Here goes:

• If they were only earning $40,000 in 1985, they would have had $837,065. Still a decent amount.

• If they were a high earner and made $75,000 in 1985, they would have $901,305 at retirement. Are you getting the theme here? There's not much difference based on the person's income since many of the taxes max out at the higher rates.

• If they were a low earner in 1985, earning only $10,000, they would have had $296,044 in 2006. Obviously, the higher incomes are paying more into the system and funding it for lower income earners.

• Now let's stay with the original assumptions but say the savers could have earned 10% a year on their investments. They would have had almost $1.3 million saved at 65.

• Now let's say they earn 10% and they grew their salary 6% on average a year (not just 4%.) Still $1.3 million. Why? They're over the maximum each year on the FICA, so no more is being taken out.

So, while this was a bit of fun, what's the conclusion?

My conclusion is that I would rather opt-out of the program, keep my money myself, invest it myself, and count on the government for nothing at retirement. Since I'm already counting on the government for nothing, but I'm having to pay in anyway, my alternative/preferred solution would ultimately net me over $1 million.

I'd take it -- if they'd let me.

Four Ways to Ruin Your Retirement

Here's a piece from Yahoo Finance that lists four ways to ruin your retirement. Their list:

1. Trust Uncle Sam.
2. Spend too much; save too little.
3. Buy high; sell low.
4. Procrastinate.

My thoughts on these:

1. I'm counting on nothing from Social Security, so I'm saving like I'm going to fund my entire retirement myself. Anything I get from the government will be gravy. But even if you're counting on something from Social Security to be a part of your retirement, I agree with their advice on the issue:

Remember that Social Security can supplement your income, but it won't pay for your retirement in and of itself -- you need to do your part.

2. Again we get back to spending less than you earn -- and making that gap as wide as possible. Do you hear a recurring theme here?

3. My solution for this: buy index funds.

4. Yes, time allows the power of compounding to work for you. So save early and save often. Even if it's a small amount, put away whatever you can now and keep adding to it. Over the course of years, it will really, really add up.

For more on retirement, see Best of Free Money Finance: Retirement Posts.

Will You Be Able to Work in "Retirement?"

There's lots of debate on the issue of working in retirement (which is kind of an oxymoron -- how can you be retired if you're working?) One side says that you should be able to work part time after you officially retire to help supplement your savings and extend your next egg. The other side says that while the idea is nice, you can't count on working later -- your health simply may not hold out.

Here's a piece from MarketWatch that contrasts these two views and why each of them have their valid arguments. We'll start with why people can work longer:

According to a recent Boston College Center for Retirement Research study, the bulk of older Americans should be healthy enough to work full-time until their mid-60s. The health of older workers is at least as good today as it was 40 years ago and jobs are less physically demanding than in the past. That, the study says, bodes well for Americans working longer.

And as a side note, I found this very interesting:

By the way, older workers who want to know whether they'll be among those who can keep working or not should check out their body mass index. Apparently, there's a strong correlation between being overweight and taking Social Security early, at age 62, according to a recent University of Michigan Retirement Research Center study.

Hmmmm. Not surprising.

Now, the opposite side of the argument -- but with a twist. Usually this side says you can't guarantee your health will hold out so you shouldn't plan on working in retirement. But this time they have a new angle:

More than one in four U.S. businesses has failed to plan to hire or retain older workers, according to a recent Boston College Center on Aging & Work/Workplace Flexibility study.

Consider: only four in 10 firms have adopted policies to encourage late-career workers to stay past the traditional retirement age, six in 10 employers say recruiting competent job applicants is a significant human-resource challenge and four in 10 employers say that management skills are in short supply in their firms.

This is a new one to me -- that employers won't be hiring older workers. But the piece does go on to say that many employers are in the process working on the issue and many expect that they'll develop options to hire and retain older workers.

As for me, I don't want to take the risk that I won't be able to work in retirement and as such I'm saving like a madman so I won't have to work. I would like to keep active, maybe volunteering and the like, but I don't want to have it forced upon me simply because I didn't save enough during my working career.

Help a Reader: Should She Take a Lump Sum or Monthly Pension Payout?

Here's a comment left on my post titled Best of Free Money Finance: Retirement Posts:

I have been scanning (quickly) your topics on retirement/income and notice that most of the postings are about 401k issues. Well, I have already used that option up! I am trying to make a decision on my pension money from the company where I worked for 27 years. I am 60 and only employed part time and have many problems keeping up with things like property taxes and utilities plus I need some fairly expensive repairs done to my home and property. My options for the pension money are lump sum and monthly checks. I am really worried about what to do and have concerns that my family (a mother and a sister) will not get any of the money if something happens to me because the beneficiary rules on the plan.

Can you shed some light on this dark view?

Like with the post yesterday, I told her I'd ask my readers and they would give her some advice. What do all of you think she should do -- or at least what issues should she consider?

Help a Reader: When Should She Take Social Security Payments?

Here's a comment left on my post titled The Best Age to Start Social Security:

I am trying to decide whether or not to take Social Security in June when I turn 62, or wait until 66. I am financially secure, not wealthy, will have a PA teacher's pension, have some investments to draw on at age 70. I would like to be comfortable now and not have to wait to travel. Also, that money would pay for my health insurance. So, what to do?

I told her I would post it here and ask my readers for their thoughts. So, what do you think she should do?

Why a Roth IRA is a Good Deal

I've weighed in before on the Roth IRA and how much I like it. After contributing to get the full match in your 410k, this is my preferred retirement savings vehicle. I was reminded of why I liked it the other day when I saw this piece from Kiplinger's. The article is titled Ride a Roth to Riches and is best summarized by this short paragraph:

If a 25-year-old contributes $4,000 each year to a Roth until he retires and makes an average annual return of only 8% on his investment, he'll have more than $1.1 million saved by the time he retires at age 65. If he had invested the money in a taxable account instead, he'd have only $810,000 if his earnings were taxed at 15%. That's more than one-fourth less money than if he'd invested in the Roth.

$300,000 more in a Roth than in a taxable account. Not bad at all, huh? Seems like a worthwhile investment to me. How about you?

How a 401k Can Make You Over $600,000 on Tax Savings Alone!

One of the advantages of a 401k that makes it such a great deal is that it saves you federal income taxes in the year you contribute to it. The details from Kiplinger's:

Every dollar you put in your 401(k) reduces your 2007 taxable income by $1 and your federal tax liability by $1 multiplied by your tax bracket.

Let's say you put $5,000 a year (not a huge number, but not an easy one either for most people) in a 401k and you're in the 28% tax bracket. Let's say you do this for 40 years during your career. And then let's say you take this money and invest it at 10% each year. How much do you have at the end of the 40 years? Almost $620,000!

And to boot, this is probably the LEAST financially attractive reason to have a 401k of the "big three" reasons (the other two are company match and tax deferred growth.) However, this one benefit alone makes a 401k a GREAT investment and something everyone should take as much advantage of as possible to help grow their net worth.

Fees Are Killing Your 401k

In Costs Matter If You Want to Maximize Investment Returns, I detailed what a big impact costs can have on your total investment return. Well, it sounds as if Congress has just found out this startling fact and is holding meetings on the issue. That ought to lock it away for 5-10 years before anyone does anything with it.

Seriously though, high fees are taking a big chunk of 401k returns. A few details:

The fees may seem small, a percentage point or two, but with $3 trillion now held in U.S. defined-benefit plans such as 401(k)s the total amount of money at stake is huge. Plus, over time, those fees add up for individuals: A one-percentage-point hike in fees can reduce retirement benefits by 17% at the end of 20 years, according to testimony at a hearing of the House Education and Labor Committee.

Barbara Bovbjerg, director of education, work force, and income security issues at the GAO, said an employee with 20 years until retirement who leaves $20,000 in a 401(k) will end up with $70,500 if the average annual net return is 6.5%. That same retiree's 401(k) will grow to only $58,400 if fees are one percentage point greater.

To compensate for the investment income lost to fees, employees would need to postpone retirement for up to three years, according to a statement from the Center for American Progress.

A few thoughts here:

1. 401k's are notoriously difficult for determining the true fees. I have yet to have an HR person in any company I've worked for adequately describe to me what all the fees are associated with a 401k.

2. That said, a 401k is still a great investment option. It's hard to beat a 50% to 100% return on your money (which is what you get if your employer matches all or part of your contribution.)

3. Yes, "even" a "small" 1% can make a HUGE difference in your total investment return over years or decades. Want an example? See $10k Challenge: Maximize Your Investments.

4. Postpone retirement for three years due to high fees? Yikes!!!!!

Saving Ten Percent of Your Salary for Retirement is Not Enough

Here's an article from Yahoo where a reader writes in asking about the "save 10% of your income for retirement" rule. The author says that while this is a widely promoted rule-of-thumb, that it's not really that valid as a true measure of what any of us should be saving for retirement. He spends the next several paragraphs telling why this isn't a good rule until he eventually gets to the punchline:

The only real way to tell if you're actually headed toward a secure retirement is to do a more comprehensive analysis that takes into account such factors as how much you already have saved, how much you're saving on a regular basis, how your money is invested and then forecasts a nest egg you're likely to have and how much annual income you can reasonably draw from it in retirement.

This is what I did when I set my retirement number. It was a detailed process, but by the time I was finished I felt like I had a pretty good handle on what I needed to save.

Now I just need to sock away money like a squirrel stores nuts for winter to be sure I hit that big number. (and, by the way, I'm saving for college costs at the same time.)

Net Worths and Retirement Savings of Baby Boomers

I'm interested in all sorts of stats on net worth -- as you can tell from many of my posts here. Not only do I track my net worth on a regular basis, but I look at what's happening with net worth numbers overall (such as in Median Net Worths -- Are You Ahead or Behind?) and use this information to share my thoughts on the subject (see Net Worth Increasing by More than Your Salary.) So when I saw some stats on Baby Boomers net worths in the March issue of Money magazine, I was interested to see what they had to say.

The stat that stood out to me the most was that Boomers have a 2.3 to 1 ratio of wealth to earnings on average. So if a Boomer has an income of $100,000 a year, on average, his net worth will be $230,000.

This, of course, generated several thoughts from me:

1. This ratio seems a bit pathetic to me. By definition, the Boomers are middle-age to older -- seems like they should have MUCH more saved than 2.3 times income. In fact, just eight pages later in the same issue of money, they list what people should have saved for retirement at various ages in relation to their income. Their list is as follows:

• Age 45 -- Should have saved 4.1 times current income
• Age 50 -- Should have saved 6.1 times current income
• Age 55 -- Should have saved 8.5 times current income
• Age 60 -- Should have saved 11.4 times current income
• Age 65 -- Should have saved 15.0 times current income

So, the average Boomer is waaaaay behind. Especially if he's 55 (on average), should have 8.5 times income saved and currently has 2.3 times saved. That's a BIG gap!

2. I look at this two ways for myself:

I have about six times current income as my net worth. And since I'm younger than their lowest age level, this seems like I'm in decent shape.

Better yet, I can live (fairly comfortably) on half of my current income. Hence my "real" retirement/wealth to income ratio is closer to 12 times. Pretty good. But it needs to be pretty good since I have a big retirement number I'm saving for.

If you're interested in Boomer finances, you may want to check out the March issue of Money. It's got a big feature section on Boomers, what they've saved, what they need to save, and the like. It's quite interesting stuff!

What Type of Retiree Do You Want to Be?

Here's an interesting piece from Yahoo that lists the six different transitions into retirement among people age 55 to 69. Their list:

• Early retirees.
• Work and play.
• Still working.
• Returnees.
• Spouses.
• Working and never plan to retire.

I'll get to my thoughts on these in a minute, but first let's include a couple other great points this piece makes:

This list can tell you two things. First, and it's probably pretty obvious to you, your financial preparations may determine which category you fall into, whether or not it's the one you might choose for yourself.

Second, if you know which category you'd like to be in, you can map your retirement savings path to meet that goal. If you want to end your working days in your 50s, ramp up that savings immediately. If you know you want to work forever, save enough so that it's a choice and not a necessity.

Personally, I hope to be in one of the top two categories. Ideally, I'd like to retire early and spend most of my time doing charitable work and volunteering for a number of non-profit organizations. That and cycling 20 miles a day. ;-)

If I had to "settle" for a different option, #2 wouldn't be bad. A combination of working some and still having a good amount of free time would be fine too.

I'm certainly saving with these goals in mind. I've set my retirement number and continue to save like a madman to reach the goal of early retirement. Much of my success will be determined by what happens in the stock market, but for as long as I can I plan to fuel the growth by maxing out my 401k and IRAs.

If you'd like some thoughts on making the most of retirement, see Best of Free Money Finance: Retirement Posts.

Facts on Retiring Early

Here are some facts (along with my comments) on retiring early from Money magazine's January issue:

13% of people expect to retire before age 60 and 20% expect to retire between 60 and 64.

So we have one-third of people who expect to retire early, huh? I'm not sure that this is a realistic expectation -- unless they expect that they simply won't be able to work. After all, it takes a lot of money to retire early and you need to take advantage of all the areas of saving to do so. I'm skeptical that most people (or even 1/3 of people) are taking the right steps to retire early.

73% took Social Security benefits early.

This is a bad idea. Or is it a good idea? I think the answer is, "it depends." For more thoughts on this issue, see Should You Start Collecting Social Security at 62 — or Wait?

38% of people retired earlier than they planned -- 7 in 10 of these say they were forced to retire due to health problems or layoffs.

This is why "working longer" may be a good retirement savings idea, but often isn't a practical way to fund retirement.

9% of people think they need $500,000 to retire early -- 35% think they need more than $3 million to retire early.

I'm clearly in the latter camp on this one. People at 65 years old have a good chance of living a few more decades. $500,000 simply won't go that far unless they have other sources of income or are very frugal.

Five Top Mistakes of 401k Investing

Here's a piece from Yahoo listing the top five mistakes of 401k investing. Their list:

• Mistake 1: Failure to enroll in an employer's plan
• Mistake 2: Contributing only enough to get the employer match
• Mistake 3: Keeping too much of your 401(k) in company stock
• Mistake 4: Taking a loan from your 401(k)
• Mistake 5: Failure to properly allocate savings

My thoughts on these:

1. There's simply no reason not to enroll in a 401k. Especially when you consider that many employers give you free money for doing so. That said, 100% return on your money doesn't seem to be enough for some people.

2. My opinion on the best way to maximize retirement savings is 401k to get the full match, then a Roth IRA, then fill up the 401k.

3. Lots of people are putting way too much 401k money in their company's stock. It's not a good idea.

4. If you need cash, don't rob your 401k.

5. Personally, I invest in index funds. And I don't keep a ton of cash sitting by. 

A Good Number of People Mess Up Their 401k Transition

Here's a piece from Marketwatch that gives some interesting stats on what people do with their 401ks when they move to a new job. The choices are to leave the money with their former employer, transfer the money to their new employer's plan, roll over the money into an IRA or cash out. Here's what they do:

Some 7.5 million Americans took about $440 billion in distributions from their 401(k) plans in 2004, according to Brightworks Partners research. Of the 7.5 million, 6.25 million were job changers and 1.25 million retired. Of the 7.5 million, 55% had 401(k) balances greater than $5,000.

Where did the money go? About 45% -- representing some $200 billion -- rolled their 401(k) into an IRA, while 32% left their money in their former employer's plan, 20% withdrew the money and paid the taxes due on that distribution, 9% transferred their money to a retirement plan at their new employer and 6% purchased an annuity or arranged to have the money paid in installments over a period of time.

My thoughts on these:

1. Rolling over to IRA -- Good idea. In fact, it's my preferred method for what to do with a 401k when I shift jobs.

2. I never understood why people leave their money in their former employer's plan -- other than it's "easy." You're moving companies, you have no contact with them on a regular basis, the fees are likely more costly than an IRA, and you have no influence if something goes wrong (I think the HR department is more inclined to take care of current employees than former ones.) So what's the advantage? Do they somehow have great investments that you can't get in a Vanguard IRA? Someone enlighten me, please.

3. Cashing out is a big, big mistake -- doing it can kill your retirement savings plans.

4. Transferring to the new employer's plan isn't a bad idea -- but I still like #1 better. You get more control and probably lower fees with option #1.

5. Don't get me started on annuities. They are another money mistake (at least in most cases.)