Review: The Retirement Savings Time Bomb… And How to Defuse It
Every Sunday, The Simple Dollar reviews a personal finance book or related book of interest.
For a long time, I avoided reading this book. The title seemed unnecessarily fear-mongering and apocalyptic to me and that’s a subgenre of personal finance books that I really have no interest in. Personal finance has such a profound power to improve people’s lives and give them hope that selling the ideas with a big spoonful of fear and paranoia is something I have no interest in.
However, the author, Ed Slott, has a point. Rather than focusing on a fear of the unknown, which is what many personal finance books do, this one focuses on a known concern. If you have a bunch of money stored away in your 401(k), it’s simply a fact that the government is going to take some of that in taxes. If you haven’t thought about that and planned for that, then, yes, retiring can be something of a time bomb.
Once I got past the overly dramatic title and actually read the book, I realized that there were a lot of good points in it. The entire focus of The Retirement Savings Time Bomb… And How to Defuse It is minimizing the tax impact on your retirement savings without giving up returns along the way. This way, you don’t have to worry about tax guesswork in your retirement planning, especially when taxes are very easy to miscalculate.
What does Slott suggest? The book boils down to a five point plan that focuses on the biggest objectives that people mention with their retirement money: protecting it from taxation, using it for emergencies without tax penalties, and passing on as much as possible to descendents. Let’s dig in.
The Crime of the Century
There are lots of horror stories of people attempting to make major moves and withdrawals, only to see them backfire in their face. Slott relates several of them here. The rule of thumb I learned from them is simple: if you’re going to make a move involving a large sum of cash, consult a tax attorney first. Most of these stories seemed to revolve around people simply making moves with a lot of money on their own because they seemed straightforward, then realized they hadn’t thought about the tax consequences of them.
What’s Your Risk IQ?
Here, Slott runs through some of the “mis-steps” that people make in their retirement planning that often creates a tax burden: putting most of their money into a 401(k), for instance, or not specifying an appropriate plan as to who actually is the beneficiary of the money once you pass on.
Roll Over, Stay Put, or Withdraw?
Whenever people leave a job where they have a retirement savings plan in place, they often have three choices: roll it over into an IRA, stay put in that plan, or withdraw it now. Each choice has benefits and drawbacks, but those benefits and drawbacks often shift based on changing tax rules. The best solution if you have a significant amount of money, from my perspective, is to consult a fee-based financial planner to make sure you’re not making a big tax mistake. Remember, all you’re trying to do is to maximize the amount of money you retain in your pocket from your savings.
Step #1: Time It Smartly
The focus here is the required beginning date (the date by which you must start taking money out of your retirement savings accounts) and the required minimum distribution (the minimum amount you must withdraw each year). Usually, the best method for minimizing your taxes on that money is to start withdrawing as close to the required beginning date as you can without going over and withdrawing just the minimum amount.
Step #2: Insure It
You should always back up your retirement plan with a healthy term life insurance policy. This way, if you pass away before you’ve spent your money, your family isn’t required to make a sudden decision to withdraw your retirement money in order to survive – a withdrawal that would cause a big, panful tax penalty.
Step #3: Stretch It
You should take the minimum distribution you can along the way, leaving as much as possible in the account. This way, the remaining amount has much more of a chance to grow and benefit from the power of compound interest, meaning it could last throughout your life and the life of your children, too.
Step #4: Roth It
A Roth IRA is a very strong place to put your money each year as the normal (appropriately timed) withdrawals from it have no tax penalty whatsoever for you. If you are eligible (if you earn under $100K a year, you likely are), a Roth IRA should be part of your retirement planning, according to Slott. I can say that I have one that’s fully funded and it makes me feel a lot more secure about retirement.
Step #5: Avoid the Death Tax Trap
In the end, though, it’s about your plans. Do you want to leave something long-lasting for your children and other descendents (or maybe for charities and causes that you leave your money to)? Or do you only care about covering for your spouse if you pass away? In each case, you should set up beneficiaries quite differently, and Slott walks through each of those options. For us, the biggest concern is to ensure that our partner is fine if one of us passes on later in life, so we’re planning for that outcome. Of course, a lot of these rules only apply if you have a reasonably large estate – for small estates, it’s much more straightforward.
What to Do When S[tuff] Happens
This chapter mostly covers a lot of the current loopholes for using your retirement money in certain situations (disability and so on) and how to handle mistakes you’ve made in your past with converting IRAs and the like. Most of this material is fairly complex – the average person would be well-served by consulting a fee-based financial planner if they’re in such a situation.
Is The Retirement Savings Time Bomb… And How to Defuse It Worth Reading?
If you focus on the core principles talked about in the book – save plenty, get life insurance, use a Roth IRA – you’re going to have a leg up in retirement. Those ideas are valuable parts of protecting your retirement savings from the taxman, regardless of whether you want that money for you or for your descendents.
The trickier part is the specifics. Right on the cover, it says “Revised and updated for the new tax rules” – and that’s the problem. You should never, ever bet on a specific minor rule or loophole to get you through your retirement, because such individual loopholes open up and close all of the time. Much of the content of this book is based on those individual loopholes.
Thus, the specifics of this book are bound to become dated quickly, and the more general advice is stuff that can be found in other very solid investment books that focus on more timeless advice.
That’s not to say there isn’t a role for this book. If you are thinking about retirement concerns in the short term, such as making withdrawals and the like, this can be a valuable read. It’s also a great primer on the things you’re going to need to think about as retirement nears.
I just wouldn’t bank a whole lot of money on the specific rules cited here, simply because such small tax law issues change so often. I’d read this book and know the scoop, but I’d talk to a fee-based financial planner who can assess your situation before making a move.
Continue reading Review: The Retirement Savings Time Bomb… And How to Defuse It …
From The Simple Dollar.
Most of Us Have Never Experienced a True Economic Meltdown
My grandfather and grandmother came of age during the Great Depression. They both passed away when I was a young child (not all that much older than my own son now), but many of my memories of them revolved around their extreme frugality. They would buy bottles of the most inexpensive wine they could buy, drink it slowly, then fill it with water to get those last drops of flavor. They hand-painted their car with house paint and a brush (seriously).
One of the most vivid memories, though, is that they kept their money in tin cans in their home, hidden in different places. To put it simply, they did not trust the banks to keep their money for them.
They grew up in the 1930s, where banks failed by the hundreds. The only difference between now and then is that they didn’t have FDIC insurance. If their bank failed, their money was gone.
Their coming-of-age experience was filled with inherent distrust of financial institutions and a well-ingrained idea that they had to protect what they had. This usually meant living as inexpensively as possible – making modest choices again and again throughout their lives.
Since then, three generations have passed. Most of us living today in the United States have never experienced a true economic meltdown. Losing some of your retirement money in your 401(k) one year and then gaining most of it back the next year is not a meltdown. Losing your job and finding a new one – partially supported by unemployment along the way – is not a meltdown.
Without this kind of life-altering experience, it’s unsurprising that later generations are unable to match the frugality of my grandparents’ generation. The idea that a third of the nation can be unemployed, that the bank where you keep your money can just take that money and run, and that if you don’t have a job you don’t get any benefits or support from the government seems completely alien to how we live our lives today.
We inherently rely on these institutions and they allow us to live less frugally and carefully than we otherwise would have.
Yet they had the things that mattered. They had people to love – and people who loved them. They had food on the table. They had the entertainment that they needed. They had a roof over their heads.
In the end, what else do we really need? Whenever we go beyond that, we’re simply chasing more of the same – and risking the security of everything we hold dear to do so.
Lately, I’ve been looking at a picture of my grandfather quite often. He’s sitting on the couch in his home with an old banjo in his hand and a big grin on his face. He didn’t have much spit and polish to him, but he was surrounded with what really mattered to him – his home, comfortable clothes, friends and family, a fishing net on the wall behind him, a musical instrument in his hands. He was happy and he didn’t need much to get there.
He knew what was important. He knew what made him happy. He also knew how easily it can be lost – something that’s very difficult for us to see most of the time. So, he made choices that might seem outrageous to others. So what?
Grandpa, almost twenty five years after you left this earth, you’re still inspiring your grandson.
Continue reading Most of Us Have Never Experienced a True Economic Meltdown …
From The Simple Dollar.
Reader Mailbag #89
Each Monday, The Simple Dollar opens up the reader mailbags and answers ten to twenty simple questions offered up by the readers on personal finance topics and many other things. Got a question? Ask it in the comments. You might also enjoy the archive of earlier reader mailbags.
I’m 34 years old; live and work in Washingon, DC for a non-profit organization I’ve been with for 10 years. My salary is quite good, and the benefits are great. Those benefits include a current 13.5% contribution to a 403b (they start at 7.5, then add a point for every two years of service, add a couple of points when you cross each decade threshold, etc) without needing an employee match. So, confession: I don’t contribute to it on my own at all. In the early years, I was wasteful, and now I’ve been focusing my money on getting out of debt first and foremost, and rebuilding my emergency fund (which has gotten tapped to pay for mother’s funeral, emergency veterinarian bills, etc in the last year).
Am I making a mistake not contributing some of my own cash as well? I feel like 13.5% of my salary puts me in good stead over the long-term, and that there will be time enough to contribute more in a couple of years when I am out of debt. My parents both died long before retirement age, too, and I am not planning on having kids who can inherit the retirement money if I have the same fate…).
- Karen
First of all, your benefits are stellar. There’s simply no other word for an organization that puts 13.5% into your 403(b) for you without you having to contribute to it. That’s a benefit most of us would kill for.
At this point, you need to step back and look at the big picture. Are you on pace for the type of retirement you want? I’d take a look at a good retirement calculator.
Two key questions worth thinking about: when do you intend to “retire” from your current career, and at that point, how much of your salary will you need? If you like to work, your intended retirement age will probably be higher than it would be if you can’t wait to retire. If you want to try a second career in your retirement years, your percentage will be lower than if you want to spend your retirement traveling.
Many will argue that you can’t know this. My belief is that the truth is somewhere in the middle – people usually know if they’re of the type who’s happier working and being productive and who’s happier with pure leisure time, but the specifics of your life can change.
Run some appropriate numbers through that calculator and aim a little on the high side. Of course, with 13.5% already being saved, you’re probably fine no matter what you do.
My question, which is prompted by your fall cleaning post, is whether people have been able to find a market for their stuff in this economy, or, to put it a little more optimistically and pragmatically, what strategies have people used to sell their stuff? My neighbor and I have a yard sale in late spring every year, but this year, for the first time ever, we hardly sold anything, making the whole event seem like a waste of time. Along the same lines, I am wondering whether people have found it harder to sell stuff on EBAY, or whether they have had to change their strategies for such sales.
- Barb
My experience in buying and selling on eBay and Amazon auctions, as well as a semi-frequent thrift store visitor, is that the secondhand and discount marketplaces are thriving right now and that it’s a perfectly good time to sell used goods. Most of the economic downturn is coming at the expense of more upscale retailers.
People tend to focus more on bargain-hunting when the economy is down, but rarely do they make true changes to their behavior. They might choose to shop for the thing they want on eBay or Craigslist or at a thrift store, but they’re still going to buy an item if they want it. A retail economic downturn usually means only a 10-15% drop in sales, which means 85-90% of the items they were selling before are still selling.
In short, if anything, now’s a better time than usual to dive into selling used stuff, because there are plenty of buyers out there.
My boyfriend and I are traveling to Prague in the Czech Republic over Thanksgiving weekend and are trying to figure out the best way to exchange money. Is it best to a) change cash in the US to travelers’ checks, b) change US cash in Prague to Czech crowns, or c) take out cash in the form of Czech crowns from local ATMs while there? I also have about 40 Euro left from my last trip to Europe that hasn’t been changed back to US dollars.
- Valerie
Your best bet is to look at your various conversion options before you leave and choose the one that gives you the most crowns for your dollar now. Your best option depends heavily on the policies of the bank you use compared to other options.
Depending on your credit and personal responsibility, it might make the most sense to simply make most of your purchases on a credit card. Visa and MasterCard are widely accepted in Czechoslovakia and you are simply billed for the amount. Be sure to tell your credit card company that you’re traveling before you leave. Assuming that you pay the bill in full when you return, this is a safer option than traveler’s cheques.
One guaranteed piece of advice: avoid currency exchanges at the airport. Their rates are atrocious. I would also probably advise doing the currency exchange there because your options are more limited than they are here in the States.
You’ve talked before about how you don’t like consumerism. How does that affect how you buy Christmas presents for your children?
- Ed
I’m more of the philosophy that you get children a small number of quality presents instead of piles of unnecessary stuff. I also am a big fan of gifting experiences to people.
So, for example, I would have no problem wrapping up a picture of Disney World or of Yellowstone and giving that as a gift along with a promise of a family vacation there. That would be one of, say, three gifts they would receive.
I have no problem with giving gifts or receiving them. However, I’m not a big fan of giving gifts or receiving gifts that are unwanted and just result in more “stuff” for people to manage that they don’t really value.
So, for all of my friends and family reading this, if I ever give you a gift that you don’t want, absolutely feel free to take it back or re-gift it. Please don’t keep unnecessary stuff in your home.
I’m a public school teacher, and as you can imagine, this was a bad year for our union to be re-negotiating the contract. Bottom line is, I’ll be bringing home less money per week next year than I am this year, and I’ll be getting fewer benefits. Though many teachers are well-paid for their efforts, young teachers like me typically start out very low on the pay scale. Next year will be tough.
To sort of “make up” for the wage reduction, our employer has offered us a new health plan called an HSA. Until now, I just had the option of a PPO. It’s an intriguing concept. The language in the contract states, “50% Employee Contribution to deductible, 10% Premium Share cost.” Deductible would be $3,000 for a couple. For a healthy, young couple like my husband and I, who are not planning to become pregnant any time soon, this sounds like it could be a better option for us. However, it’s hard to get straight answers from anyone around here. Many teachers do not understand the program, and the employer and union are talking it up, and perhaps exaggerating its usefulness, in order to try to make the teachers feel like they didn’t get the short end of the stick with the pay reduction.
Could you give me the lowdown on HSAs? I understand the basics. What would be the risks in going with an HSA plan? What would be the benefits? Who would you see as the optimal candidate for HSA, and who would be a person that should stay with a PPO?
- CT
In a nutshell, HSAs are just savings accounts that your employer deposits money in that you can withdraw solely for health-related expenses. This is usually done through a reimbursement system or via a debit card that accesses the account which can only be used at health-related businesses.
In general, HSAs are a solid option for younger workers who are in good health. The older you get – and the more known conditions you have or know you will develop – the better off you are sticking with the PPO.
Given that you’re young and healthy, it’s likely that the HSA is a reasonable option for you. However, it does carry a risk. You’re basically betting against a very expensive medical emergency in the next year or two. While that’s potentially a good bet for you, it becomes a much worse bet for people with pre-existing conditions and people who are older.
When you just close your eyes and let yourself dream, what do you dream about? If everything goes perfectly for you, where will you be in ten years?
- Adrian
I dream of being a best-selling fiction writer. I dream of having a house out in the country with a large office for writing, a small barn in the back, and some woodlands there. I dream of happy, healthy, and curious children.
More than anything, though, I dream of not being afraid of what the future holds. Even with all of the positive changes in my life over the past few years, I’m still afraid of what might come. I haven’t reached the level of financial security I’d like to reach.
My husband and I put aside money into a few mutual funds to save for a house shortly after we were married (about 6ish years ago). The money is in 3 Vanguard index funds: an S&P 500, a long-term bond fund, and a European fund. We are getting closer to buying a house (probably 3-4 years away now). How do I decide when to take the money out and put it in something more safe. Honestly, with the rocky stock market, I don’t think we’ve made any money at all on our investment. It’d be nice to get some more stock market gains seeing how low money market accounts are now, but I don’t want the money to be too volatile, as we would really like to put down a large downpayment on a house once my husband finally gets a real job (i.e. finishes his postdoctoral training and gets onto the academic market).
- Amanda
The real question to ask yourself when deciding whether to move money into something more conservative is to ask yourself whether you can tolerate the worst possible outcome.
For some situations, like retirement, the worst possible outcome – losing 20-30% of the investment over the next few years – is intolerable. For others – perhaps yours – it’s not nearly as vital.
If losing some of that money you have now would really hamper your plans for the future, move it into something more conservative. If that house you’re talking about isn’t an absolute requirement within four years and you’d be fine if it didn’t happen right then, leave it there.
My biggest problem during my workday seems to be uneven energy. I seem to run out of steam at about eleven and so I go eat lunch with some people. After that, I feel almost exhausted for a big part of the afternoon.
I know the solution to this is eating breakfast, but I can’t get into a routine of eating breakfast. I don’t like most breakfast food. What is your breakfast routine like?
- Payton
I usually eat breakfast with my kids each morning. We usually eat something different every day. One day, it might be oatmeal; another day, it might be scrambled eggs. We might have a bagel or toast for breakfast along with some fruit.
Don’t worry about tying yourself into a “traditional” breakfast food. Eat whatever sounds good to you that’s reasonably healthy and provides some energy. If it’s fruit, great. If it’s a salad, great. If it’s a beef and bean burrito, great. Just find a food that works for you in the morning.
I need to have surgery on my left jaw joint. I’ve had various appliances and procedures over the years, all of which have helped (or not) to some degree, but now things have degraded to the point of constant pain and not being able to eat more than pudding (and even that hurts, believe it or not). However, I just found out (literally on Friday, three days ago) that my employer’s health insurance has a specific all-encompassing exclusion for jaw-related treatments of any kind (I have paid for the smaller procedures and appliances out of pocket in the past, so I didn’t realize there was such a total exclusion that would zap me now), and this surgery will be $11,200 minimum. My oral surgeon already sent off an impassioned plea to the insurance company, which was met with a total denial because of the exclusion. I’ve been told there’s no point in appealing, again, because of that exclusion. The dental plan also will not touch it. I can get along awhile longer without the surgery, but the pain and inability to eat much will only get worse, so at some point I pretty much have to have the surgery. I refuse to go the narcotics route.
My husband and I are very lucky at this point in our lives to have the savings that would allow me to pay for this, but it would still be a huge hit. Another possibility is to charge it all on a rewards credit card – we still pay the full amount a month later (I will not carry the balance!) but would get, what, $112+ back. woo! Another possibility is to apply for a no-interest medical loan, which I know about because we investigated that avenue when my husband needed gum surgery last year. Typically there is a period of 6 months to 12 months (depending on the loan and the credit rating) to pay the loan back before any interest or finance charges start kicking in. So that would allow us to parcel it out over x months without having to pay interest. But we still end up paying $11,200 in the end.
Short of quitting my job, divorcing my husband, giving away all my assets and applying for medicare/caid, is there any other option I’m not seeing? Or any other way to handle the finances that might make it less painful in the wallet?
- Cindy
You’re likely far more informed about your options in this situation than I am. However, three things pop into my mind.
First, have you sought out multiple opinions on the subject? If you have not sought a second opinion on your jaw, you might be missing out on a treatment option that drastically reduces your costs and gives you the results you want. Your oral surgeon could be one of the best in the world, but he still might be missing some detail.
Second, have you simply tried negotiating? Tell your oral surgeon that it would be difficult to pay for the procedure. Offer to barter what skills or time you have in exchange for some part of the payment. See what’s possible.
Finally, have you looked at any form of third-party dental insurance? There may be forms of insurance that will cover your procedure. It might not be a bad idea given your spouse has also had oral issues.
Whatever happens, good luck!
Peyton Manning or Tom Brady?
- Evan
Drew Brees.
Got any questions? Ask them in the comments and I’ll use them in a future mailbag.
Continue reading Reader Mailbag #89 …
From The Simple Dollar.
Brian O’Connor: 401k plans failing in retirement
Brian J. O’Connor, columnist at the Detroit News, has this piece today: Workers discover 401(k) plans are failing them in retirement.
He makes good points about the unrealistic expectations that have been placed on ordinary people via converting retirement money to 401(k) plans to make complicated financial investment decisions. A snippet:
All this is not to say that disciplined savers who make the right investment choices and educate themselves can’t build a successful retirement with a 401(k) or similar plan, notes Ted Lakkides, a certified financial planner and director of Cygnet Financial Planning in Waterford.
“The short answer is that people can achieve satisfactory retirement if they do things the right way,” Lakkides says. “But they don’t know how to do things the right way.”
Even doing all the right things means retirement savers still must trust to the fates that they’ll dodge a layoff, illness or other financial calamity, as well as stock market meltdowns.
Now, since the 401(k) plan is often the only retirement program available from an employer these days, what can one do about that?
You’ll want do whatever you can during your working years to limit your monthly household expenses with informed choices on financial services, saving money through frugal living techniques and paying down debt.
Continue reading Brian O’Connor: 401k plans failing in retirement …
From Monroe on a Budget.