How to prioritize your savings
Dear Liz: I put 10% of my income into my 401(k) retirement account and my employer matches up to 6%. Should I also be saving another 10% in a regular savings account? I have $2,500 in regular savings right now.
Answer: You don’t say how old you are, how much you’ve saved for retirement already or what your other debts are. All those factors help determine where your savings should go.
You’re smart to be contributing to a 401(k) and getting the full company match. You can use an online retirement calculator, like the one at ChooseToSave.org, to see if you’re saving enough. If you’re not, you can boost your contributions.
If you’re on track for retirement, the next step is to pay off any toxic debt such as credit cards. (Toxic debt is any debt that carries high or variable rates and that erodes, rather than enhances, your wealth.) Once that’s paid off, you can focus on building up your emergency fund. In general, it’s smart to have at least three months’ worth of expenses in a savings account to be tapped in case of real emergency, such as a job loss.
Should a retiree tap into a 401(k) to pay debt?
Dear Liz: You responded to the question “Should I take $50,000 from my 401(k) to pay off the debt?” with a resounding no. However, part of the rationale was how much the money could grow if it were left alone. That makes sense for a young person, but how would you answer the same question for someone retired at age 66?
Answer: At that age, you wouldn’t face tax penalties for early withdrawal and you’re probably giving up less in future gains than someone who is younger.
But dipping into a 401(k) to pay unsecured debts may still be a bad move if there is any chance you’ll wind up in Bankruptcy Court, because retirement funds are protected from creditors. It’s also unwise if you would be withdrawing a large part of your nest egg, because this money has to last you the rest of your life.
A visit with a fee-only planner can help you decide whether using your retirement money this way makes sense. You can get referrals from www.garrettplanningnetwork.com or www.napfa.org.
Protecting retirement funds: unethical or smart?
Dear Liz: In your column in our Sunday paper, you gave advice with which I strongly disagree. The question to you was whether to pay off a $50,000 credit card debt from retirement funds of $250,000. I found your advice not to use this money, citing tax penalties, loss of retirement income, etc., to be irresponsible. Do you consider encouraging bankruptcy to be ethical financial advice? Once again, another unwise borrower does not have to be accountable and is shown the easy way out. Many people have had to tap their 401(k)s before retirement for various reasons. The money is owed, the borrower has the means to pay it, so he should pay it.
Answer: Why do you think premature withdrawals from retirement funds are so heavily penalized? And why do you suppose retirement funds are protected from creditors in Bankruptcy Court?
It’s because lawmakers have decided that there are some things worse than reneging on your debts, and one of them is an impoverished old age.
Yes, if you take on a debt, you should do your utmost to pay it back out of your current income. If you need to sell otherwise-unprotected assets to do so, then do so.
But tapping retirement funds prematurely is rarely smart, and it’s particularly unwise if there’s a possibility that you’ll wind up in Bankruptcy Court. Advising people of that fact is a long way from encouraging them to file for bankruptcy.
By the way, few people who have been through it would call bankruptcy an “easy way out.” Many people struggle with the decision, put off filing for too long and drain the very resources that could have been protected, only to end up having to throw in the towel anyway.
Couples’ big age difference affects retirement planning
Dear Liz: My husband is quite a bit older than I (about 18 years). When we married, we agreed that we should put all our savings into joint funds and into his retirement accounts. Our thought was that since I’m younger, we’d have much earlier access to retirement money by funneling it into his retirement accounts (as opposed to mine), and that it was unfair for me to sock away money that he may never have access to.
Intellectually it feels like the fair way to go, since we both work and are equally responsible for our family’s finances. The money we’ve been putting in his retirement accounts will ultimately belong to both of us. But emotionally, I feel anxious about not having my own accounts. Should I just work this out in therapy (joking) or am I right to be concerned? What would you advise for a couple like us with an age difference?
Answer: You are likely to outlive your husband by at least two decades. Rather than focusing on early access to retirement funds, you should be making sure that money lasts for a lifetime: your lifetime, not just his. By the way, considering your own needs is not unfair — it’s sensible. A loving husband wouldn’t want to leave you old, alone and impoverished.
You may not need a session with a therapist, but you should definitely have a meeting with a fee-only financial planner who can review your situation and make sure the needs of both of you are considered.
Overstuffed your 401(k)? You won’t be penalized
Dear Liz: When the stock market dropped this past year, I decided that was a perfect time to max out my 401(k) deduction to the plan’s 35% limit. The problem is that the IRS maximum contribution is $16,500, and it’s nearly impossible to get my withholding to exactly match the dollar limit. If I am slightly over the maximum at the end of the year, what is the IRS likely to do to me?
Answer: It’s typically not the IRS that takes action in these situations; it’s the 401(k) plan administrator that will either stop your contributions once you hit $16,500 for the year or send you back a check for any amount over the limit you’ve contributed.
You’ll have to pay regular income taxes on that money, but you won’t otherwise be penalized for trying to be aggressive about your retirement savings.
