You hear it over and over in the media: "Invest for your retirement!" But with so many retirement options and a limited amount of money to put towards retirement investments, it isn't always clear where the investor should put her money.
In fact, one of the most common questions that both current and prospective investors ask is: if I have a limited amount to contribute, where should I put my money first, second and so on?
In the best situations, you'd maximize all of your legally allowed retirement contributions every year. But many of us do not have the financial freedom to do this. We need to place our retirement money where it will be most effective. Here are some rules to guide you in your decision making process:
In fact, one of the most common questions that both current and prospective investors ask is: if I have a limited amount to contribute, where should I put my money first, second and so on?
In the best situations, you'd maximize all of your legally allowed retirement contributions every year. But many of us do not have the financial freedom to do this. We need to place our retirement money where it will be most effective. Here are some rules to guide you in your decision making process:
Retirement Rule #1: Maximize Your Company's Matching Contribution
If your employer provides matching contributions in a company sponsored plan, then put in as much as you need to receive the full match. It's not everyday that you can get 25-100% of a return on your investment immediately.
Rule #1 is the easiest decision to make. But if your company doesn't match, or you've got some left over money to invest, how do you choose between the other options?
Retirement Rule #2: Prefer Quality and Flexibility
If your employer's retirement plan is very restrictive and doesn't offer you very many good investment options, then choose to first maximize any IRA of your choice. Choosing a good IRA is as easy as choosing a good mutual fund: you want to identify a fund that has a strong track record, has good management and is poised to provide consistently high, long-term returns.
On the other hand, if you're company's plan offers you a wide array of good investments, it may also offer some flexibility that an IRA cannot offer. Many 401k plans allow you to have access to your funds before retirement and without penalty via self-given loans. These loans can be used for emergencies and you always pay yourself back. Unfortunately, while you have the money out, you mis-out on any stock market returns that you may have otherwise profited from.
Retirement Rule #3: Roth or Traditional IRA?
There are two IRA options: Traditional and Roth. Which should you pick? As a general rule, pick the Roth if you think you'll be in a higher tax bracket at the time of your retirement and choose Traditional if you'll be in a lower tax bracket as retirement approaches. The reason: you minimize the taxes you have to pay to the government.
