What would you do or have you done?

housefulMarch 9, 2005

I need some help. My husband had a 401K with his old company, but because not everyone in the company participated, he was limited to how much he could contribute. With his new company, he can contribute $13,000 a year, substantially more than before. It is This is nice as it reduces tax liability. Although with 5 kids and a mortgage, we already have substantial deductions. If he puts in the max, we would be fine, but there would not be much for extras, like the new car we will be needing soon. Take home would be as if he didn't get a raise.

Now, this 401K has no monthly company match but there is a company contribution at the end of each year (not guaranteed however). We also want to save to remodel the house (5 years away at least). I do not want to take out any more loans for the house. I just want to pay as we go. I am told that if there is no company match then it really isn't that great of deal.

Here are my questions.

1) Are there other pretax investments? My husband didn't think so, but a friend told me there are.

2) Do you save 15% of gross or net?

3) How can I balance saving for retirement and enjoying money now. I don't mean in a greedy way, just fixing the house up and letting kids play sports and such if they want to. I don't indulge my kids in everything, but what if they each wanted to participate in something. Some activities cost at least $50 a month if not more. And then there are vacations and Christmas for which to save.

I should mention that we each have a Roth. We could max those out too. Things would be tight, but not impossible. Thanks for any advice.

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Lots of good questions but more info is needed for answers. Like, how old are you? College savings for 5 kids? How much do you have saved already for retirement? Other than mortgage, what kind of debts? But, giving "rule of thumb" answers:

1)No, 401(k) is best pre-tax. DON'T let someone sell you tax deferred annuity.

2)Depends on your tax bracket, what the savings is. Since it is tax time, look at adjusted gross income (AGI -line 36 on Form 1040). Now go to the tax rate schedule (p. 76 of 1040 instructions). Look at schedule Y-1 (second gray box). Find the row your AGI fits into and go to the 3rd column, where it says the tax is. The +X% part tells you what tax bracket you are in. For example: If your AGI is $40,500 your tax bracket would be 15%. Hope this isn't too confusing. Bottom line is, if your AGI is between $14,300 and $58,100, your tax bracket is 15% for Federal taxes. Then you have to add in your state taxes. So, if you are in the 15% Fed bracket and let's say 6% State, combined would be 21%. A $10,000 401(k) contribution would cost you $7,900 after tax). Figure your AGI & taxes with and without the 401(k) contribution and that will show you how
much your contribution will "cost" you.

3)Finding a balance? Without knowing any other info, I would say that if you are saving 8-10% of your gross income every year and have an emergency "stash" in a money market fund, you are doing fine and should enjoy life.

    Bookmark   March 10, 2005 at 11:58AM
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Max out your ROTHs! Yeah, you don't get to deduct it, but it will grow and be available to you TAX FREE when you retire. You can also use the proceeds for other things... but there are rules, so you need to check them out. I'd start maxing those accounts out NOW.

I was raised that you SAVE your "raises", so continuing to live as you presently do in spite of a raise is the way I've always lived (I up the percentage I contribute to my workplace retirement plan with every raise; I have any bonuses put directly into that account, too; and I use my "per diem" allowance to buy US Savings bonds). Living that way and saving that way I've always been able to buy pretty much whatever I've wanted. BUT, and this is big one ;), we don't have kids. So we don't deal with clothing necessities, musical instruments, activities, college saving... none of it. And that takes the pressure off in a big way!

But seriously, get busy with the ROTH IRAs. It's a great thing, something you'll really appreciate when you're retired. I asked our accountant about converting when the ROTH first became available and I had 4 years to pay the "back taxes"... he told me I'd be a fool to miss out on tax-free saving. I'm glad I followed his advice. The other financial guy we work with was delighted to see we not only maxed out our IRAs, but converted them to ROTHs when we had the chance.

    Bookmark   March 10, 2005 at 4:48PM
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I hate giving to much specific info, but he's 40 and I'm 38. We have more than 50k, but less than 100k in retirement. We are not too worried about college. We worked our way through college and that is what we encourage our kids to do.

Dave Ramsey says 15% after bills are paid, but I haven't listened to him in ages so I wasn't sure if it was net or gross. Our only debt is our house and we only owe about 1/3 of what it's worth. The monthly payment is right about 1/4 of our monthly net. Instead of putting the max in the 401K, I would rather take some of that to pay down the mortgage.

As for #2, I will talk with my husband about that this weekend. Thanks for the help.

    Bookmark   March 10, 2005 at 5:00PM
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Thanks Chelone. We were posting at the same time. So your saying max out the ROTH's and put the leftover into the 401K?

    Bookmark   March 10, 2005 at 5:03PM
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You're in pretty good shape (much better than most) but do need to beef up the savings. Whether or not the Roth is better than the 401(k) relates to tax brackets now and expected bracket at retirement. There is not a hard & fast answer except that for people who will have a lot of income in retirement, the Roth makes more sense. If you plan to stay in your house "forever" then paying down the mortgage more quickly makes some sense but if you think you might move in the next 5 or so years, it makes less sense.

School costs a LOT more for kids than when you went so you might tuck some funds away to help out when the time comes.

But, sounds like you are doing the right things. You are living below your means and not building debt. I think everyone needs a little lift from the feeling of "we can't afford it" so while I don't believe in borrowing to support one's lifestyle and do think everyone needs to save for retirement, life is way too short not to spluge once in a while.

    Bookmark   March 10, 2005 at 6:00PM
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I would definitely max out the ROTHs. And use the "extra" to fluff out the 401K or direct a little more to the mortgage. Admittedly, I tend to be quite conservative in my approach to saving/investing, but investing regularly OVER time is the surest way to build wealth.

I'm also a proponent of paying to principle on mortgages, but we're planning to stay put for a long time to come and "retiring" the mortgage was a priority for us. We did it in about 10 years, by rounding our monthly payment up to the next even hundred, and then we made a 13th. payment equal to that rounded figure every year. There is a real sense of accomplishment and relief when the mortgage is paid and the monthly payments can be redirected to savings and investments. But again, we don't have kids... so it was simply a matter of commitment for us.

Lest our approach sound too austere, rest assured it was relatively painless! We lack for nothing, and found that being true to our financial plan yielded money for "play", something I found surprising, actually. But I think you and your husband have things "wired"... you know what you want and are working patiently and thoughtfully to get there. Good for you! Have you ever spoken to a financial planner? sometimes it can be helpful, though finding one you like and trust can be sort of like finding a needle in a haystack. Also, Jonathan Pond has some good tid-bits to offer.

    Bookmark   March 11, 2005 at 6:00AM
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I have never heard of Jonathan Pond. I will do some research on him. We haven't talked to a financial planner, but I have one in mind that I might call.

Thank you both for the insight. My husband and I have quite a bit to discuss this next week and I will go over all this info with him.

    Bookmark   March 14, 2005 at 11:14AM
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Please research this carefully, and with a CPA on the tax consequences. Aren't you limited on your participation in an IRA if you also participate in a 401(k). Make sure that you are within the IRS guidelines.

    Bookmark   March 19, 2005 at 7:02AM
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If I'm not mistaken MSF is right about limitations on 401 and IRA contributions and if I may say there is also a 'Retirement Savings Contribution credit' that may be available to you, (also called a saver's credit)based on modified AGI and filing status, up to $2000 per taxpayer or $2000 per each spouse if MFJ. The credit varies from 10-50%depending on filing status and modified AGI(not sure if that was much help). Sounds like your doing great though! I'm checking out Traditional IRA or Roth's and heard Roth's were good(not that traditionals' were bad). Good Luck!!!

    Bookmark   March 21, 2005 at 1:13PM
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I asked my husband about this and he didn't think there were limitations. He said we will definitely check into. We will also look into the credit. Thanks for the tips.

    Bookmark   March 23, 2005 at 8:49AM
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I put nearly 35% of my salary away every month in retirement and other savings, but I've no kids/wife and I live fairly simply.

Question about your tax situation...

I'm assuming that with 5 kids and the mortgage, you get a refund every year.

How much of a refund?

If it's more than a few hundred dollars, adjust your withholding so that the Feds get less of your money. That will allow you to put more money into the 401(k), and could possibly give you even more spending money every month.

A few years ago I was talking with a friend who ended up getting something like $2,500 back every year. I just couldn't understand why he wanted to give the government an interest free loan like that.

    Bookmark   April 3, 2005 at 10:54AM
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Kframe, yes we get a refund sometimes more than $2500. We discussed this some time ago and I am pretty sure he adjusted it the maximum (or minimum allowed). I am definitely going to follow up on this. I know you are supposed come as close to breaking even as possible on taxes, so I am not sure what is going on with it.

As a followup on the 401K, we decided to go ahead and do the max. Well, the HR gal called my husband and told him that because we was in a highly-paid mgmt position, it was too much and he would probably get money back. We both laughed at the "highly-paid" part, but anyway we had to cut it to about $9000 a year. We didn't realize we would have this same issue as his previous job because this company is much, much larger with many employees above him.

I check out Pond's website and found this questions posted.

Question: "My husband and I are each contributing 10% of our incomes to our companies 401(k) plans and have some money left over to invest elsewhere. Would it be better to put that money away for our kids college or make extra payments against the mortgage?"

Pond's answer: "Probably neither at this stage. Rather, you should add to your retirement savings plans at work if you can get to 15%, great. Then, I think you both should do an IRA. While saving for college and paying down the mortgage are both noble objectives, your most important objective at this stage in your life is putting enough money away for retirement. Moreover, contributing to plans at work and IRAs are simply better financially than college savings and extra mortgage payments. Since there are limits as to how much you can contribute to retirement plans, each year its a use it or lose it proposition. If you forego putting as much money as you can into a plan in a particular year, its a year that can never be made up in the future. But once youre over the hurdle of putting enough money away for your retirement, then you can go on to college savings and prepaying your mortgage. Perhaps you could do a little of both with whatevers left over at the end of the month."

I have been putting a bit extra toward my mortgage for almost two years now. Maybe I shouldn't. Next week we will be talking to my in-laws accountant. I think I better print this out and bring it with me.

    Bookmark   April 4, 2005 at 12:49AM
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I really like Jonathan Pond. He has a good-natured, straight forward approach to savings and investment. And the question and answer you just shared bears that out.

We wanted our home paid for because we plan on staying here for the long term. Our mortgage was not particularly large, so paying it off early was not a big stretch. Also, we do not have the luxury of a matched 401K retirement plan. We have simple IRAs through our jobs, with a minimal match and ROTH IRAs for each of us. So, paying off the mortgage and "freeing up" that payment for investment in savings vehicles made sense for us.

I think your's was a great question! It perfectly illustrates how one's circumstances can radically affect the choices and options available with respect to money.

    Bookmark   April 4, 2005 at 12:52PM
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Thanks, Chelone. I sure wish I had learned, or shall I say listened to, some of this stuff when I was in my 20's. My parents were depression children and never like the stock market. They did just fine through real estate, fortunately. My husband even had a job offer out of college with an investment company. He chose to go back to work for the family business, but we both look at each other like what the heck were we thinking!

    Bookmark   April 6, 2005 at 10:52AM
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Hi Houseful,

If you'll get a $1,200. refund this year, it means that as of the end of Jan last year you'd made a loan to the government (no interest given) of $100., which grew to $200. at the end of Feb, and to $1,200. at the end of Dec., then carried through at that level from that date until the date that you receive the refund cheque.

If you're interested in making interest-free loans, where need I go to join the line-up?

How long a term are you willing to offer?

Do you issue interest-free credit cards, as well?

Jes askin'.

joyful guy

    Bookmark   April 7, 2005 at 2:09PM
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