Retirement income: Invest in 401(k) or Roth IRA?
Retirement income funds can go to Roth IRA, but only up to maximum allowed. Question No. 9 in today's reader mailbag.
What’s inside? Here are the questions answered in today’s reader mailbag, boiled down to five word summaries.Skip to next paragraph
The Simple Dollar is a blog for those of us who need both cents and sense: people fighting debt and bad spending habits while building a financially secure future and still affording a latte or two. Our busy lives are crazy enough without having to compare five hundred mutual funds – we just want simple ways to manage our finances and save a little money.
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1. Car leasing question
2. Separate savings accounts
3. Handling reduced income
4. Relationships and honesty
5. Why savings accounts?
6. Planning for debt freedom
7. Upgrading credit card
8. Trusting product reviews
9. Funding retirement
10. Figuring out priorities
Opening up the window and feeling a cool breeze when your office is stuffy.
Hearing a child laugh because of the sheer joy of life.
Eating a handful of strawberries straight out of the garden.
These little things have filled my day. These little things fill my life.
Q1: Car leasing question
I have been on my own, graduated from college for a year now. I just recently moved into an apartment with a friend after living with my parents after graduation. I am asking for some advice for a newly grad.
I have been reading the simple dollar for about 6 months now trying to figure my way around the adult world. When I went to college my parents were nice enough to pay for my gas and groceries on a credit card to build credit. However, the economy has hurt even my seemingly invincible parents and I am left with $3000 left in credit card debt.
Now I know that its not terrible, but still something I am now paying off. My parents also are being very generous and paying the minimum, and I am throwing $200 extra to help them/myself with the payments. The interest rate is 20% on the credit card debt. Also I have roughly $24000 in student loans with $186 monthly payments and 6.5% interest.
I also contribute 4%, about $50, to a ROTH IRA since I have to be in my position for a year to get 401k matching. I put about $100 a month to a savings account also. Now is it worth it to continue contributing to my IRA, or put the extra $50 towards my credit card bill? I know that it is good to start investing when I am young, but does that 4% make sense right now?
I also just started leasing a car in February since mine was going to need a lot of repairs. The monthly payment on that is $200. Now I was reading an article that you wrote about the differences in buying used or buying new, but you never mentioned leasing. You said buying new would be worth $63000 over 15 years. If you do the math it would only be $36000 to drive a brand new car if you figure $200 monthly payments for a new car.
Now I am young, but is it worth it to lease a new car for $200 a month? It is a Honda Accord so it gets excellent gas mileage.
The difference between buying new and leasing is that, when the payments are finished, you’ll wind up with a late model used car that you can drive for as long as you want if you buy new, but at the end of a lease, you don’t have a car at all unless the dealership decides to sell it to you.
The only time a lease makes sense is if you absolutely must have that new car smell. For example, it makes sense for some salespeople to be driving new cars as it’s part of the sale to the customer. Since you need the shiny “new” effect, the ability to return a car at the end of the lease and getting a new one is enormous.
Having a lease is like always having a car payment, a payment you can never escape from. The reason to actually own your vehicle is that you can go for years (sometimes many years) without a payment.
The best option is always to pay cash and own the vehicle. This eliminates the money that’s lost to interest on the loan. Used cars are usually the best deal, but you should always be doing the numbers and the research.
Q2: Separate savings accounts
I have a mundane question about logistics. when you say you put away 4% to education, and $100 a month for vacation… WHERE do you put them? separate bank accounts? smarty pigs? how do you keep money separate for specific purchases? that’s the way I think of my finances, and I end up with lots of different accounts!
Why not have lots of different accounts?
I use SmartyPig and ING Direct. Both of these companies allow you to open several separate savings accounts under the same service. Both pay a decent interest rate on the money you save.
If all of the separate savings are listed under one login or two, it’s not really all that inconvenient. You can manage them from your home computer with ease.
Q3: Handling reduced income
My husband works in residential real estate (he’s a builder) so needless to say our cash flow has been hammered over the past several years. Before our daughter was born in 2007, we upgraded to a larger home which was completely within our budget at the time, but I was hit with a layoff a year later. I luckily landed a job I love six months later, but I’m currently making less than I was at my old job.
A smaller paycheck, combined with a husband making much less in a troubled economy, has equaled about $15,000 in credit card debt a couple of years later. I don’t see the home market getting back to where it was in the next couple of years at least. Selling the home isn’t an option: we just refinanced and any equity in the home was wiped out during the recession based on the new appraisal.
Hammering away with extra payments on the credit cards isn’t feasible with our current cash flow. If I could just make the credit card payments go away, most of my cash flow issues would be resolved. We have just under $150K in retirement savings between monies contributed to Roth IRAs, Traditional IRAs and a whole life policy. Am I totally crazy to think about hitting the retirement savings to pay off the debts? I can withdraw monies initially invested in my Roth IRA without penalty, right? We have the mortgage and one car payment, but no student loans or anything. BTW, I’m 34. Your thoughts?
If you hit your retirement to pay off these debts, you’re pretty much adding a couple years of work directly onto the end of your working career. When you’re 70 (or so), you’ll be working when you could be retired.
That’s the real exchange you make when you empty out your retirement to pay off a $15,000 credit card debt. You’re going to lose 10% of your retirement savings. Over the course of your life, that will add up to about 5% of your total when you’re older (depending on your later rate of saving, of course). There’s also the income taxes and penalties and other factors (like loan costs from borrowing from a life insurance policy).
I would be very careful before taking retirement money for credit card debt. The total cost of early withdrawal of retirement money is enormous and often stacks up to the interest rate on credit card debt when you account for the total cost of withdrawing it and the lost returns over your lifetime. If I were you, I’d try to make lifestyle changes and pay off the credit cards without tapping retirement savings.
Q4: Relationships and honesty
I know that you’re married and have been for awhile and I have been in a relationship myself for over 6 years. I was wondering, do you think that total honesty is necessary for relationships? If something has happened, the event has passed, everyone has moved on, lessons have been learned, is it necessary to bring up the truth with your significant other simply to relieve yourself of some guilt even though it would just make them temporarily upset? Or is that just selfish? Who doesn’t make mistakes right? As long as you’ve learned from them and are truly apologetic and remorseful, is it okay to move on and not speak about it? This has been bothering me for a long time. There is something I want to tell my significant other but I’m afraid I only want to tell him so I don’t have to think about it anymore–I acted selfishly (though somewhat unknowingly) and I feel like I’d be doing that again just to make myself feel better.
Dishonesty, especially when guilt comes from that dishonesty, often affects your relationship in more ways than you think. It changes a lot of your interactions. It makes it seem more plausible to be dishonest at other times. It makes you feel guilty, which changes your interactions and alters your relationship today.
Think about it. Right now, you feel guilt toward your relationship. I’m sure there have been times when you’ve bitten your lip and chosen to not say anything or say something else. Each of those things alters your relationship – and not in a good way.
I think you should be honest. Every moment when you’re trying to choose your words carefully with the person you should be closest to in the world is another gulf in your relationship and you should strive to have as few of them as possible.
Q5: Why savings accounts?
This is both a question and an observation. When I see people describe the benefits of Savings accounts, they always seem to use big numbers. For example, “If you use a savings account with 3% interest…” is a common one. The thing is, there are NO accounts available that deliver that kind of interest. In fact, my credit unions offer .1, and .3% APY for sub $10,000 accounts, and going up as high as .4% for >$100,000. Searching around, the very best savings account I can find offers 1.25%, but isn’t FDIC insured. ING offers 1%.
Where do people get these inflated example numbers from? Was there a time when people actually could see >1% interest on a savings account? I’d really like to store my emergency fund somewhere where it can garner some decent interest considering I’m not using it for anything for now. Most of these banks seem to be wasting my time. I know its safe, and I am earning SOME interest, but honestly seeing a whole 25 cents coming into my account each month seems insulting since I know I could make far more money off of monthly dividends should I put the money in a real estate trust. Is this something to do with the economic climate? Or have banks always had a pathetic return on savings accounts?
Yes, there was a time where people saw interest rates higher than 1% in savings accounts. It was called 2007.
Savings accounts tend to reflect the prime lending rate, which sets interest rates on a whole bevy of things from mortgage rates to returns on government bonds. That rate has been very low since 2008. When that rate is low, savings accounts return very little – between 0% and 1%, typically. At the same time, mortgages are very low.
When the economy rebounds, the prime lending rate will eventually go up. At that point, savings accounts will begin to inch up in order to attract savers so the banks can keep lending money in a hot economy.
In other words, in our current economy, you won’t find a good interest rate on investments that are both very stable and very liquid (which is what savings accounts are). In order to get a better return, you have to either give up stability (by buying stocks, for example) or give up liquidity (by buying land, for example).