I’m 53 years old, a registered nurse and planning to retire at 58. I am married, my wife is two years older than I am and she plans to retire at 62. We have a good marriage and friendship. We have three grown up kids. I only have $300,000 in my 401(k), and not on aggressive mode.
My work at a prestigious hospital will give me more or less a $700,000 pension from 26 years in service. I plan to get Social Security at age 62. When I was younger in my 20s and 40s, I never had planned on retiring, but sickness got in the way (my knee is giving me problems that I’m unable to walk for longer hours. I had two minor surgeries and it didn’t fix it).
In my situation, I think it’s doable. I plan to live a simple life. I plan to add an extra $1,000-$2,000 yearly to my mortgage.
Do you think my money will be sufficient? I’m so embarrassed that I did not prepare well enough. I have no savings at all or cash on hand. I lived paycheck to paycheck because my wife and I were careless with our expenses. We don’t have debt. I have six cars and I’m planning to limit it to two cars in the future. And sometimes it bugs me that 5-6 years until retirement is so close and I’m still young. I started working when I was 22 years old.
What is the best plan for the coming years? In the next 5-6 years, I don’t want to open my eyes, because I think I’m not ready for the next chapter of my life. Thank you.
Dear Mr. Wonderman,
First of all, you’re not alone. Many Americans are surprised to see they have not prepared as well as they had hoped for retirement when they finally get ready to call it quits. And having a medical condition certainly doesn’t help the situation.
The good news is you have time, especially if you’re both planning to work another five to seven years. And you also have a healthy sized pension, which is something many Americans these days cannot rely on. So you’re not as bad off as you may think.
The bad news is, you’ll probably have to make some realistic assumptions of what your retirement will look like. If you’ve lived primarily paycheck to paycheck in your working years, that may continue to feel the case in your retirement.
“If his assets are the entirety of the pot of money to draw from, they will probably be retiring on less income than they are currently making,” said Brent Ford, partner and investment adviser representative at Benefit Wealth Partners.
Think very carefully about the sort of income you’ll be receiving until you can begin claiming Social Security at age 62. If you retire and your wife is still working, you may want to try and rely solely on her income as opposed to dipping into your 401(k), so that the money in there can continue to grow over time. It is hard to tell how long anyone will live, but you should plan to live a couple of more decades at least, and you’ll need all the savings you have to last that time frame.
For most people, filling in that income stream gap comes down to working part time, Ford said. Is that possible for you? Or is there another hobby or passion you have that you could potentially make money from while you’re waiting to claim Social Security?
Whether you’ll be able to live a comfortable and simple lifestyle in your retirement depends largely on how you define that. Assess how much income you’re bringing in now and compare it to what you will be getting from your account withdrawals and Social Security, when the time comes. Also make realistic assumptions for how much everything will cost in your retirement – your housing and utility bills, groceries, healthcare, taxes, and some of the fun stuff. You have worked all these years, you and your wife deserve to enjoy this next chapter.
Here’s one way to do that: First, try using an annual withdrawal rate of 3% for your estimates. In this scenario, if you were to have $1 million in retirement assets, you’d be withdrawing about $30,000 a year, or $2,500 a month. Then, see how much you can expect to get from Social Security. You can do this by making an account on the Social Security Administration’s website. You’ll be able to view your work and earnings history (which is important – your benefits are based on that and you want it to be accurate), and you’ll also get an estimate for your benefits at various claiming ages.
Add those numbers together and see what you get. How does that compare to the amount of money you’re bringing in now, and will it cover the bills and then some for the future?
One of the advantages in your situation is that you both seem to be living within your means, even if you’re not happy with how you’ve saved, Ford said. “We should be attempting to meet their preretirement net income, or the amount of money that is getting deposited into the bank every two weeks,” he said. “If we can achieve the same living wages on a month-to-month basis, it’s logical that they are able to pay their required debt and continue to achieve close to their standard of living.”
He has a few other suggestions, such as not putting extra payments toward the house, especially if you have a low interest rate. If you’re able to pay the mortgage, which it appears you are, just keep doing what you’re doing, and stash away any excess money for your future. The equity in your house is important, but that money becomes illiquid when you put it toward your mortgage, and you may want to focus on assets you can easily tap into. One crucial account you’ll need, for now and in retirement, is an emergency fund.
As for your cars, now may be a good time to sell. The current auto economy is a seller’s market, Ford said, and you may be able to sell them for a higher price now than in a few years when interest rates jump and supply chain issues are less of a problem.
Also, consider reviewing your 401(k) asset allocation. You said you’re not aggressively invested, and there may be a million reasons why, but this is an “awkward” time to be too conservative, Ford said. With interest rates historically low, bond values are not too hot, which means if you’re heavily invested in bonds, they’re not working too well for you. Inflation doesn’t help either, because as your values are dropping so is your spending power. If you’ve tuned into the news at all, you’ll likely see that the stock market has been hit hard lately, what with inflation and the war between Ukraine and Russia, but you may want to find a financial adviser who can help you make sense of the best investment strategy, so that your money is really working for you.
I want to talk a little bit about your spending concerns. Being aware of your spending habits and how it affects your savings and monthly budget is actually a very good thing, even if you’re not very pleased with yourself at the moment. And this is something that can be course-corrected without completely depriving yourself of the joys in life.
Check out MarketWatch’s column “Retirement Hacks” for actionable pieces of advice for your own retirement savings journey
The key is not to go too fast in trying to change your ways, said Larry Luxenberg, a certified financial planner and principal with Lexington Avenue Capital Management. “Trying to go too big all at once is a recipe for failure,” he said.
Money is a very personal topic, and everyone approaches it differently based on how they view it, which may be the result of how they were raised or what they saw happen to their parents, their grandparents or their peers during major financial events (ie. the 2008 housing crisis). Savers may always feel a reluctance to spend and spenders might find trouble fighting the desire to splurge, but small, meaningful changes are possible.
To get a better idea of just how good or bad your spending is, try tracking it. You can do this by writing down everything you spent on a pad or in a spreadsheet, or using an app like Mint that categorizes your spending for you. Maybe do it for a month or two and see what you find. Some people print out their credit card and debit statements and use a highlighter to pore over their spending.
“It’s important to approach this process from a place of curiosity, not judgment,” said Laura Lee Thompson, a certified financial planner at GWN Securities. “Doing this helps to answer the questions: Does the way you spend your money align with your values? Followed by, is there anything that can be eliminated – or can you find a less expensive way to get it?”
You might find that your cable or cellphone bills would be less expensive with another provider, or that you’ve been paying for a magazine subscription you haven’t looked at in years. “The process can be empowering as it helps the retiree become more intentional and cognizant of their expenses,” Thompson said.
Readers: Do you have suggestions for this reader? Add them in the comments below.
Have a question about your own retirement savings? Email us at HelpMeRetire@marketwatch.com
American Weed Stocks Are Cheap. They’re About to Get a Sales Bump.
How Do Mega Backdoor Roths Work?
A mega backdoor Roth is a unique 401(k) rollover strategy that’s designed for people whose incomes would ordinarily keep them from saving in a Roth Individual Retirement Account. The advantage of using a Roth IRA to save for retirement is being able to make tax-free qualified withdrawals. But not everyone can contribute to these accounts; higher-income earners are excluded. That’s where the mega backdoor Roth comes into play. If you have a 401(k) you’d like to roll over, you could use this strategy to enjoy the tax benefits of a Roth IRA without having income be an obstacle.
Make sure you’re taking advantage of every opportunity to maximize your retirement assets by working with a financial advisor.
Roth Account Basics
Before diving into the specifics of a mega backdoor Roth, there are a few things to know about Roth accounts, including Roth IRAs and Roth 401(k)s.
First, these accounts are both funded with after-tax dollars. That means when you make qualified withdrawals later, you won’t pay income tax on the money since you already paid it upfront. This is the key characteristic of Roth accounts and what makes them so appealing to investors who anticipate being in a higher tax bracket at retirement.
Next, your ability to contribute to a Roth 401(k) is not restricted by your income. But it is for a Roth IRA. For the 2021 tax year, you must be within these modified adjusted gross income limits to make a full Roth IRA contribution:
Single filers: MAGI of $125,000 or less
Married filing jointly: MAGI of $198,000 or less
Head of household: MAGI of $125,000 or less
You can make partial contributions above those income limits. But your ability to contribute phases out completely once your MAGI hits $140,000 (if you file single or head of household) or $208,000 if you’re married and file a joint return. For 2021, the full contribution allowed is $6,000 with a $1,000 catch-up contribution for savers aged 50 and older.
Finally, Roth 401(k) accounts are subject to required minimum distribution rules just like traditional 401(k) accounts. This rule requires you to begin taking money from your 401(k) starting at age 72. A Roth IRA, on the other hand, is not subject to RMD rules.
What Is a Backdoor Roth?
A backdoor Roth offers a work-around for people whose incomes are above the limits set by the IRS. When you execute a backdoor Roth, you roll money over from a traditional IRA to a Roth account. This way, you won’t have to pay taxes on your retirement savings in the Roth IRA when it’s time to make withdrawals. And you’re not subject to required minimum distribution rules either.
But there is a catch. You have to pay income tax on the money you roll over to a Roth account. So while you could save money on taxes in retirement, you’re not escaping the tax liability of a traditional IRA altogether.
How a Mega Backdoor Roth Works
A mega backdoor Roth is a backdoor Roth that’s designed specifically for people who have a 401(k) plan at work. This type of backdoor Roth allows you to contribute up to $38,500 to a Roth IRA or a Roth 401(k) in 2021. This is in addition to the regular annual contribution limits the IRS allows for these types of accounts. To execute a mega backdoor Roth, two conditions have to be met. Your 401(k) plan needs to allow the following:
You can ask your plan administrator whether your 401(k) meets these criteria. And if your plan doesn’t allow for in-service withdrawals or distributions, you could still attempt a mega backdoor Roth if you plan to leave your job in the near future.
If your plan meets the criteria, then you can take the next steps to execute a mega backdoor Roth. This is typically a two-step process that involves maxing out after-tax 401(k) contributions, then withdrawing the after-tax portion of your account to a Roth IRA.
Again, whether you can follow through on the second step depends on whether your plan allows in-service withdrawals. If it doesn’t, you’ll have to wait until you separate from your employer to roll over any after-tax money in your 401(k) into a Roth IRA.
You also need to watch out for the pro rata rule. This IRS rule says you can’t only withdraw pre- or post-tax contributions from a traditional 401(k). So if you’re completing a mega backdoor Roth, you couldn’t just withdraw post-tax contributions if your account holds both pre- and post-tax funds. In that case, you may have to roll over the entire balance to a Roth IRA.
Benefits of a Mega Backdoor Roth
There are three key benefits associated with executing a mega backdoor Roth. First, you can contribute significantly more to a Roth IRA upfront this way. For 2021, the contribution limit is $38,500 on top of the regular annual contribution limit and any catch-up contribution limits that may apply.
You’ll need to know the maximum amount you’re allowed to contribute to the after-tax portion of your 401(k). So for 2021, the IRS allows a maximum contribution of $58,000 or $64,500 if you’re 50 or older. You’d subtract your 401(k) contributions and anything your employer adds in matching contributions to figure out how much you could add to the after-tax portion.
Next, you can enjoy tax-free withdrawals in retirement. This is a benefit you may otherwise not being able to get if your income is too high to contribute to a Roth IRA. By reducing your tax liability in retirement, you can help your investment dollars go further. And you may have a larger legacy of wealth to pass on to future generations.
Finally, a mega backdoor Roth IRA would allow you to sidestep required minimum distribution rules. This means that you could retain control over when you choose to take distributions from a Roth IRA.
So who is a mega backdoor Roth right for? You may consider this move if you:
Have an eligible 401(k) plan at work
Have maxed out traditional 401(k) contributions
Are not eligible to contribute to a Roth IRA because of your income
Have additional money that you want to invest for retirement
Want to leverage the higher Roth IRA contribution limits allowed by a mega backdoor rollover
Talking to your financial advisor can help you decide if a mega backdoor Roth makes sense. And your 401(k) plan administrator should be able to tell you if it’s possible, based on your plan’s guidelines.
Mega Backdoor Roth Alternatives
If you can’t execute a mega backdoor Roth because your plan doesn’t allow it, there are other ways to increase your retirement savings. For example, you could try a regular backdoor Roth instead. This might be something to consider if you still want to enjoy the tax benefits of a Roth IRA but your plan doesn’t fit the criteria for a mega rollover. You could also elect to make Roth 401(k) contributions to your retirement plan at work. This way, you still get the benefit of contributing after-tax dollars and making tax-free withdrawals. You’d be subject to the regular contribution limits and you’d still have to take the required minimum distribution. But that may outweigh the value of tax savings in retirement.
Investing in a Health Savings Account (HSA) is another option. While these accounts are not specifically designed for retirement, they can yield multiple tax benefits. Contributions are tax-deductible and grow tax-deferred. Withdrawals are tax-free when used for eligible healthcare expenses. And at 65, you can take money out of an HSA for any reason without a tax penalty. You’ll just owe ordinary income tax on any withdrawals that are not used for healthcare expenses.
Finally, you could open a taxable brokerage account to invest. This doesn’t necessarily save you money on taxes since you’ll owe capital gains tax when you sell investments at a profit. But it could help you to diversify your investments and there are no limits on how much you can invest in a brokerage account annually.
A mega backdoor Roth strategy could work well for higher-income earners who want to take advantage of Roth account benefits. There are certain rules that need to be followed to make it work, however, so you may want to talk to your plan administrator or a tax professional before going ahead. Keep in mind also that even if you can’t complete a mega backdoor Roth rollover, you still have other options for growing retirement savings.
Tips for Retirement Planning
If you’re saving for retirement in a 401(k) or IRA, pay attention to the fees you’re paying. For instance, check the expense ratios for each fund you’re invested in to understand how much you pay to own that fund on an annual basis. You can then compare that to the fund’s performance to determine whether the fees are justified. Also, consider any administrative fees you might be paying and how those affect your net returns.
Consider talking to your financial advisor about a mega backdoor Roth and whether it could be right for you. If you don’t have a financial advisor yet, finding one doesn’t have to be complicated. SmartAsset’s financial advisor matching tool makes it easy to connect with professional advisors in your local area. You can get your personalized recommendations in minutes just by answering a few simple questions. If you’re ready, get started now.
Photo credit: ©iStock.com/designer491
Alibaba Is Tumbling. Chinese Tech Stocks Have a New Headache.
Chinese tech stocks were tumbling on Monday as two of the embattled sector’s leading players faced fresh fines from market regulators over disclosure rules.
China’s State Administration for Market Regulation announced Sunday a wave of penalties for improperly reporting past deals, in breach of competition law.
(ticker: BABA) and
(0700.H.K.) were among the companies fined as a result.
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