So far in the 15 Steps to More Money and Less Debt series, I’ve shown you how to track and trim your costs, pay off debt, and build up an emergency fund. There’s one critical aspect that you can’t miss out on: investing your money. Whether you are retiring in 2 years or 20, retirement investing is critically important to your financial future.
It can also be devastatingly confusing to the point that you make no decision at all. In reality you would be better off making a mediocre decision than avoiding the subject all together.
Before we get started breaking down all of your options, here’s a big win.
Most places of employment offer a retirement option like a 401k. And most companies with a 401k provide an incentive for their employees to use the account. This is called an employer match.
How much your employer will give you is dependent upon your company, but it is free money. Ask your HR department about making sure you are putting enough in your account to get the employer match.
Here’s a simple example:
An employer might match your contributions up to 2% of your salary. If you put in 2% to the 401k plan, they’ll put 2% in on your behalf as well. You’ve just doubled your contribution. (If you put in 5%, they would match the first 2%, but it is still free money.)
If you don’t get anything else from this email, get your free employer match.
At first glance the various accounts you can use to save for retirement is baffling:
It’s a bunch of seemingly random letters and numbers pushed together. I’m supposed to use this to retire?
Here’s an easy breakdown of the accounts:
The average person should have a 401k or 403b tied to their employment plus either a Roth IRA or Traditional IRA that they set up on their own.
You’ll notice on the above list there are some things that have the word Roth in front of them. What does that mean?
Roth is the namesake of the Senator that sponsored some legislation. That’s not important. What is important is the money you put into those accounts is after-tax money. Meaning you get your paycheck today and take some of that money to invest it for the future. That contribution, no matter how large it grows, is never taxed again by the government.
The rest of the accounts are pre-tax investments. What this means is you don’t pay taxes today, but you pay taxes on the contribution (and any associated growth) in the future.
This is important because $100,000 in a Roth IRA and $100,000 in a Traditional IRA are not the same amount of money. You could withdraw all $100k from the Roth in retirement. With the Traditional, you would have to pay income tax (let’s say 25%) and only end up with $75,000.
It’s a tradeoff: do you want to pay taxes now (Roth) or defer takes until later (Traditional)? The answer is dependent upon your specific situation, but one could argue there is wisdom in doing a little bit of both so you don’t have to guess about your future tax rate.
After you decide which direction you want to go, you need to find a company to open an account with. There are a lot of options, and we have an article to help you choose the right investment broker for you, and how to set an IRA account.
In terms of finding the right investments there are literally thousands of options. The key aspect to watch with your investments is how much they cost you. In the investing world (at least of mutual funds and ETFs) this is called the expense ratio and it is shown in a percentage format like 0.50% or 0.07%. (All things equal, you want the 0.07% investment over the 0.50% because you just saved 0.43% in cost.)
The easiest path to get started with investing is:
Investing isn’t something you can easily summarize in an article. Use this one as a primer, and check our other investing articles to learn more about investing your money.