Retirement plans: Does a 401(k) make more sense than a Roth IRA?

Retirement plans feature in Question 2 from the Reader Mailbag. Also inside: paying ahead on a mortgage (Question 6), long term care insurance (Question 3) and a World Series prediction.

By , Guest blogger

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    Planning for retirement involves so many uncertainties – Roth IRA vs. regular IRA vs. 401(k) vs. investment account – not to mention the increasingly shaky future of Social Security. How do you make your retirement plans? One approach is discussed in question 2 from the reader mailbag.
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What’s inside? Here are the questions answered in today’s reader mailbag, boiled down to five word summaries. Click on the number to jump straight down to the question.
1. Trust fund family problems
2. New job, retirement issues
3. Long term care insurance
4. How do CDs work?
5. Book on blogging
6. Paying ahead on mortgage
7. Books on fatherhood
8. Roll over my TSP?
9. World Series redux
10. Voting

As I mentioned before, I’m going to publicly write and share a rough draft of a novel during the month of November. It’s going to be a rough draft, so expect it to be rough. Having said that, I also think it’s going to be a solid read. More details on Wednesday, as I should have a few thousand words uploaded by then.

Q1: Trust fund family problems
My sister-in-law suddenly and unexpectedly passed away this summer. She named her youngest sister, Mary, as the sole beneficiary of her life insurance. Mary has made a lot of poor choices in her life. She has no job, no education, no money, and no sense of responsibility. Now suddenly she has $200,000.

Recommended: Could you pass a US citizenship test?

My sister-in-law also left behind an 8-year-old son, Bobby, who now lives with his dad. (They divorced several years ago.) His dad recently remarried, and they have a baby on the way. With Bobby to take care of too, money is extremely tight.

The family believes my sister-in-law wanted to give Mary one last chance to set her life straight and learn responsibility. Mary has promised to set aside money for Bobby, but so far all she has done is go on a spending spree and show off to her friends. The family is concerned that she will just blow through the money. Is this where a trust fund would be helpful? How can the family make sure there is money left to take care of Bobby?
- Katie

If you’re asking for my opinion, she’s probably going to blow through the money. If she were serious about setting aside money for the boy, that would have happened before anything else.

Now, what should you do about it? You can’t make her do anything, but you can make it as easy as possible for her to commit some portion of the money to a trust for Bobby. Assume that a relatively small portion of the money will go into the trust ($20K to $50K is what I’d assume), then get the paperwork drawn up yourself and make it so that all she has to do is sign on the dotted line and transfer the cash.

Make all of the decisions about the trust yourself. Should it allow a certain percentage to be withdrawn each year for Bobby’s care? Should it just sit until he reaches adulthood? Who should be the trustee? That’s a personal decision within your family.

Having said that, I would not be shocked if she refuses to sign it, at which point I would assume Bobby won’t get a dime of it.

Q2: New job, retirement issues
I’m 23 and have been working in medical sales for 17 months (I was one of the lucky few to get a job right out of college). I just bought an engagement ring so after I propose (and hopefully she says yes) I’ll have to start looking at the cost of a wedding and also a place of our own. My girlfriend and I are each living with our parents still (nice of them to invite us back after college, eh?) so with no living expenses, low food expenses, and overall wise spending habits I save around 70-80% of my post-tax salary. She’s going to school for her MSW so she has no income (but her parents have taken care of school payments so very few expenses too).

I currently put 10% towards my company’s 401k, but they don’t match. I have about $6,000 there, $10,000 in a Citibank money market, $15,000 in an Ally savings account, and around $5,000 in bonds (birthday/bar mitzvah gifts) that have not yet matured.

I just got offered another job that I’ll be starting in January and they are a 1099 company, so they don’t offer any sort of retirement investment options. What should I do with the 401k from my current job? Keep it and open something else? Roll it into a Roth IRA? They seem to be all the rage nowadays. Also, should I continue contributing to the 401k for the next 2 months or take the money that would’ve gone towards that and invest it another way?

As far as the rest of my financial situation, is there anything you would change about where I have my money? I feel like having $25,000 in 2 accounts that are only gaining roughly 1.3% isn’t wise if there’s something I could be doing to increase my return.
- Sam

I say you should do this, for two reasons.

First, rolling into a Roth you control gives you much more freedom over what investments are chosen, which means you have the capacity to choose lower-cost investments with better returns.

Second, rolling over now means you’ll pay taxes on that money now, which is a period of rather low income tax rates compared to historical numbers.

As for how to do it, this post at Good Financial Cents offers a very nice, simple description.

Q3: Long term care insurance
So my question today is, what’s your opinion of investing in long term care? I’m 54, in very good health, and have an opportunity to get $450,000 LTC if I sign up now and pay about $3700 a year in premiums. Part of me thinks it’s a wise investment, another part swallows hard when I think of how that money will add up over the years. Any thoughts?
- Lisa

Long term care insurance does patch up a potential risk for a person’s future, I’ll agree with that.

However, compared to the cost of the insurance, the risk is small, and for most people with reasonable incomes in the United States, the cost as a portion of their annual income adds too much risk in other aspects of life to be worth it. In other words, if you’re buying that insurance on an “average” income, you’re giving up and/or risking too much in other avenues of life.

I think it’s a great idea if you have an exceptional income or accumulated wealth, but without that, this is a risk I’d put on the back burner.

Q4: How do CDs work?
How do CD’s work? Pros and Cons? Short term = Long Term??
- Sherry

The best way to think of a CD is that you’re promising to give a certain amount of money to a bank for a certain amount of time. In exchange for that money for that period of time, the bank offers to pay you a better interest rate on that money than they’re offering in their basic savings accounts.

So, for example, a bank might have a basic savings account that pays 0.5%. They might also offer a 12 month CD that pays 1.5%. So, if you put $10,000 into the savings account, you’d earn only $50 in interest over a year, but if you bought a CD with that money, you’d earn $150.

What’s the drawback? That money is locked down for whatever term you agree to, and if you want the money before then, you’ll lose most of the interest earned, making it worse than a savings account (usually).

Right now, I don’t think CDs are worth it. Their rates are barely better than a savings account and, to me, it’s not worth the lock box you have to put your money into.

Q5: Book on blogging
What book would you recommend for someone that wants to start a blog and website? I need something easy to understand. I am not necessarily wanting to host my own website and would consider someone hosting it for me but am just not sure which way to go.
- Bobbi

Most of the information on how to blog is spread out across a ton of websites on the internet. There really haven’t been that many good books on blogging available to date.

My recommendation of the ones available is Darren Rowse’s ProBlogger: Secrets for Blogging Your Way to a Six Figure Income. It’s probably the best all-around starter guide for someone who wants to take it to a professional level.

I would definitely pair that book with a lot of online reading from blogs like Copyblogger.

Q6: Paying ahead on mortgage
I know it’s good to pay the mortgage every two weeks as you end up paying an extra month a year as well as saving interest. How does paying a month in advance stack up next to this method?
- Millie

These two methods end up being very, very close to each other over the course of a calendar year, with the “pay a month in advance” method coming out on top by just a bit.

Of course, in order to keep on top with the “pay a month in advance” method, you have to make an annual extra payment on your mortgage. It is easier for most people just to make a half payment every two weeks.

In either case, the real advantage is getting in an extra full mortgage payment each year, regardless of how you do it. Simply making that payment is far more important than stressing about which way to do it.

Q7: Books on fatherhood
Trent, my wife and I are expecting our first baby in May. I assume that you applied the same level of research and study to fatherhood that you have applied money decisions, buying a car, etc. Did you come across any particularly good books about pregnancy/fatherhood?
- Geoff

The single most valuable book I read on being a parent was The Read-Aloud Handbook by Jim Trelease. The focus of the book was on how to best read books and other materials aloud to your children, but it branched into other topics of parenting very effectively as well. For me, that book had the most impact.

Another book that had a big impact on me was Girls Will Be Girls: Raising Confident and Courageous Daughters by Joann Deak. I grew up in a household with only brothers around me, so I was very uncertain about having a daughter. This one helped a lot.

A final book that’s helping a lot now with my four year old and three year old is Mindset by Carol Dweck. Why this one? I want my children to always have a mindset that they can pretty much do anything that they put their mind and effort towards, and that’s the sole focus of this book.

Q8: Roll over my TSP?
I was employed by the Federal government for only 9 months, but fully funded my TSP to the tune of about $3700. I’ve just become eligible at my new employer to enroll in their Roth 401k plan and am wondering if I should roll over my TSP. I plan on funding my new retirement account to the max that they’ll match (plus a little extra if I can). I haven’t read about any penalties to keeping my TSP which is invested 72% in the 2040 L fund, 24% in the G fund, and 4% in the 2030 L fund. If you think it wouldn’t hurt to keep it, are there any redistribution changes you’d suggest?
- Bill

It depends on what you’re rolling it over into, but I’d lean towards the Roth simply because that would make the money be after-tax, which would mean it will grow without tax implications and you can withdraw it at retirement without paying taxes.

One thing I would do first is to sit down and look at the investment options available for the Roth 401(k) as well as detailed information on the TSP plans. Which ones have a better history? Which ones charge more in fees? You’re trying to tease out the best investment here.

If they’re roughly equal, I’d convert to the Roth 401(k), simply because if I have a roughly equal choice between pre-tax retirement savings and post-tax retirement savings, I’ll choose the post-tax.

Q9: World Series redux
Care to retract your World Series prediction (Rangers in 7)?
- John in SF

It feels to me like the Rangers gave it all they had to beat the Yankees and they just have nothing left in the tank for the World Series.

They looked so sharp in the ALCS and look so incredibly tired and lethargic in the World Series. It’s almost painful to watch.

I’d guess Giants in 6 at this point.

Q10: Voting
Could you remind your readers to vote on Tuesday?
- Shawn

If you’re a United States citizen, spend a few moments right now studying up on what races are going on in your district, then spend a few moments tomorrow voting.

The midterm elections are just as important as the presidential elections. In most states, governors are being elected. Every seat in the House of Representatives is up for grabs, as is a third of the Senate. Here in Iowa, we also have a key vote with regards to our state Supreme Court justices that’s been intense to say the least.

I’ll go so far as to say that voting tomorrow is probably more impactful on your day to day life than your vote in the presidential election of 2008 was. Add on top of that the fact that voter turnout will probably be lower and not only is the election more important than in 2008, but your vote will have more weight than in 2008.

Hit the website of your best local newspaper. Find out what’s going to be on your ballot and learn about the major races on it. Then take a few minutes and vote tomorrow.

As one of my best friends always says sarcastically before Election Day, “vote early and vote often!”

Got any questions? Email them to me or leave them in the comments and I’ll attempt to answer them in a future mailbag. However, I do receive hundreds of questions per week, so I may not necessarily be able to answer yours.

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