What is the Best Retirement Savings Account for Me?

Gregory Palacorolla, CFP ®

 

We’ve all heard the warnings and read the stories about what will happen if we don’t plan/save for retirement. So, why are so many Americans NOT saving? Is it an insatiable desire for instant gratification and inability to see the long- term effects of saving? Maybe Americans aren’t making enough in their paychecks to offset the costs of daily living expenses, childcare costs and revolving debt. Perhaps it is a paralysis born from a lack of knowledge. The first two may not be solved overnight, but the latter is an area you can act on quickly, starting by reading this post.

How many are saving?

  • According to Northwestern Mutual’s 2018 Planning and Progress Study, which surveyed over 2,000 adults, 21% of Americans have NOTHING saved for the future, and another 10% have less than $5,000 stashed away.
  • Almost 66% of employed people between the ages of 21 and 32 have NOTHING saved for retirement, and according to the Economic Policy Institute, the average retirement savings across all age groups is only $95,766.

Why should I save?

There are many reasons why you should save for retirement, but let’s start with the top 3:

  • Social Security is fading fast. According to the latest projection, if nothing changes, the Social Security trust fund will only have enough revenue coming in to pay 77% of promised benefits starting around 2034. For 33% of older Americans, it provides 90% or more of their monthly income, which equated to a maximum monthly retirement benefit of $2,687, for those who retired at full retirement age in 2017. Many retired, elderly are walking the tightrope of poverty, while they work at a minimum wage job to make ends meet.
  • Tax deferred growth. Saving in a tax-deferred account reduces your income taxes. Making deductible contributions to a traditional IRA reduces your income as you are taking money from your savings or checking account to make that contribution. If you contribute to a 401k plan on a pre-tax basis, this reduces your take home pay, and the net effect is less than the contribution amount because the amount that your income is reduced is less than the amount you contributed. For example:

Jonathan earns $100,000 per year in his current job
His income tax rate is 28%
He is paid weekly
He contributes 10% of his salary to his 401k account offered through his work every pay period
His weekly contribution will be $192
His paycheck will be reduced by only $138

  • Rising costs of healthcare. The average cost of healthcare in retirement for a couple retiring today at age 65 is about $280,000, according to an annual estimate by Fidelity. This number assumes the couple is participating in original Medicare and includes premiums for part B and part D coverage. It assumes lifespans of 87 for a man and 89 for a woman. It excludes long-term care and dental costs.

It is quite clear saving for retirement is crucial. The next questions to arise are obvious; How much should I save and what retirement vehicle is the right one for me? It truly does depend on the individual or couple, their lifestyle, what they currently have saved up, their medical needs, future events, etc.. However, there are general rules of thumb that those in our profession use as guidelines. For example, Fidelity recommends stashing away 15% of your income. As for the proper plan to use, we’ve compiled a chart to help with sorting through plan features, benefits and things to consider for the various options available.

 

Plan Type Plan Features Benefits Things to Consider
Simple IRA
  • Available to employers with 100 employees or less who earned at least $5,000 in previous year
  • Contribution requirements by employer:
  • -Matching contribution up to 3% of employee comp.

    -2% non-elective contribution for each eligible employee

  • Employees able to contribute 100% of comp. up to $13,000 ($15,500 if age 50 or older)
  • Must be established by October 1st of current tax year

  • Simple, easy and inexpensive retirement plan to implement and maintain
  • Employer contributions are deductible business expenses
  • Employee Contributions are deferred pre-tax and grow tax deferred
  • Investment options available are greater than most other retirement plans
  • Distributions taxed as ordinary income and subject to 10% early withdrawal penalties if under age 59.5
  • 2 year waiting period to transfer SIMPLE funds to another IRA
  • -25% early distribution penalty if processed during this time

  • Employees always 100% vested in all SIMPLE IRA money
  • Traditional IRA
  • Anyone with earned income who is younger than age 70.5 can contribute to a traditional IRA
  • 2019 Contribution limit of $6,000 per year or $7,000 if over age 50
  •  

  • Contributions are tax-deductible on both state and federal tax returns for the year you make the contribution
  • You pay no taxes whatsoever on the growth of your contributed funds, as long as they remain in the account
  • Withdrawals are penalty free beginning at age 59½
  • Withdrawals in retirement are taxed at ordinary income tax rates>
  • Require you to start taking required minimum distributions (RMDs)—mandatory, taxable withdrawals of a certain percentage of your funds—at age 70½, whether you need the money at that point or not
  • Beneficiaries pay taxes on inherited IRAs.
  • Roth IRA
  • Retirement account funded with post-tax money
  • 2019 Contribution limit of $6,000 per year or $7,000 if over age 50
  • Eligibility is restricted based on income
  • -For 2019, AGI under $137,000 for single filers

    -AGI under $203,000 for married filing jointly

  • Contribution deadline of April 15th
  • Simple, easy and inexpensive to implement and maintain
  • Money grows tax-free; withdrawals in retirement are tax-free
  • No required minimum distributions (RMD) at age 70.5
  • Access to entire investment universe
  • Beneficiaries of Roth IRAs don’t owe income tax on withdrawals and can stretch out distributions over many years
  • Earnings taxed as ordinary income and subject to 10% early withdrawal penalties if distribution is taken prior to age 59.5 (certain exceptions may apply)
  • Principal contributions are accessible for withdrawal
  • No current year tax benefits for contributions
  • Backdoor Roth IRA contributions are available for high income earners who typically may be ineligible
  • 401(k) Plan
  • Typically used by business owners with employees
  • In 2019, employees able to contribute up to $19,000 per year pre-tax, $25,000 if over age 50
  • Total contribution limit of $56,000 per year, $62,000 if over age 50 (after-tax dollars)
  • Employers may contribute into employee’s account
  • Adoption of a written plan, recordkeeping system, investment platform required
  • Ability to contribute more than SEP & SIMPLE IRA’s
  • Flexibility in plan design (401k match, etc.)
  • Employer contributions are deductible business expenses
  • Employee & employer contributions grow on a tax-deferred basis
  • Investment options limited to company specific platform
  • Additional expense to establish plan and annual testing/filing fees
  • Distributions are taxed as ordinary income and subject to 10% early withdrawal penalties if under age 59.5
  • Can add Roth provisions to allow tax-free growth
  • Employer contributions may require vesting by the employee
  • Solo 401(k)
  • Traditional 401(k) plan covering a business owner with no employees, or that person and his/her spouse
  • Annual contribution limit for 2019 is $56,000
  • Contributions made by employee and employer, both of whom is the business owner:
  • -Employee elective deferral 2019 limits: $19,000 or $25,000 if over age 50

    -Employer contribution: 25% of gross income (if corporation) and 20% of net income (if sole proprietor/partnership)

  • Elective deferrals must be made by 12/31; Employer contributions prior to tax filing date including extensions
  • Easier to implement and maintain than traditional 401(k)
  • -No annual filings if plan has less than $250K in assets; no discrimination testing required

  • Ability to contribute more than SEP & SIMPLE IRA’s
  • Employer contributions are deductible business expenses
  • Employee & employer contributions grow on a tax-deferred basis
  •  

  • Expense to get establish plan documents and annual testing/filing fees (if over $250K in assets)
  • Distributions are taxed as ordinary income and subject to 10% early withdrawal penalties if under age 59.5
  • If additional employees are hired, a traditional 401(k) would be required
  • SEP IRA
  • Must be a sole proprietor, business owner, in a partnership or earn self-employment income
  • Contributions made by employer
  • Sole proprietors can contribute 25% of net self-employment income up to $56,000/year
  • Contribution deadline of April 15 or extension date
  • Equal contribution must be made for all employees
  • Simple, easy, and inexpensive to maintain and implement
  • Contributions are deducted from total income on page 1 of Form 1040
  • Earnings grow on a tax-deferred basis
  • Investment options available are greater than most other retirement plans
  • Distributions are taxed as ordinary income and subject to 10% early withdrawal penalties if under age 59.5
  • Potential for significant cash outlay by business owner if multiple employees are on staff
  • Employees are always 100% vested in all SEP IRA money
  •  

    No matter what plan you choose, you will be in a much better position putting money away for your retirement. Oftentimes the sacrifices we make today act as seeds allowing us to experience enormous growth and success tomorrow, but of course it is up to us to plant the seed.

    Sources: CNBC, Time, HuffPost, Forbes

    © Geier Asset Management, Inc. Nov. 2018. Gregory Palacorolla, CFP ® is Director of Wealth Management for Geier Asset Management, Inc., a Registered Investment Advisor. The articles & opinions expressed in this material were gathered from a variety of sources, but are reviewed by Geier Asset Management, Inc. prior to its dissemination. All sources are believed to be reliable but do not constitute specific investment advice. The views expressed are those of the firm as of November 2018 and are subject to change. These opinions are not intended to be a forecast of future events, a guarantee of results, or investment advice. Any advice given is general in nature and investors must consider their own individual circumstances. In all cases, please contact your investment professional before making any investment choices. Geier Asset Management, Inc. is not responsible for any damages or losses arising from any use of this information. Past performance is no guarantee of future results.