Mo Money Mo Problems
Clients sometimes ask me how and where to save additional money if they’ve maxed out their 401K contributions. It’s a nice problem to have and here’s my ranked order of saving options.
1. Health Savings Account.
The best choice is a health savings account. This tax-sheltered savings is only available if you have a qualifying high deductible health plan. If you’re eligible, it’s hard to beat as it combines the best of a pre-tax IRA (tax-deductible contributions) with the best of a Roth IRA (tax-free distributions). You can read more here.
2. Roth IRA.
The next best option is to contribute to a Roth IRA. However, Roth IRAs have an income limitation so if your adjusted gross income is too high, you’re ineligible. You can read more here.
3. After-tax 401K contributions.
A little known feature of some 401K plans is allowing participants to make additional after-tax contributions, up to a total of $56,000 per year. You receive no tax deduction but the benefit is that these additional contributions can be rolled into a Roth IRA when you leave your employer. This is like a super-charged but delayed Roth IRA contribution. However, 401K plans often do not offer this option.
If you have children or other relatives and want to contribute to their college education, a 529 is the best way to do so. It works similarly to a Roth IRA — the investment income accrues tax-free and you’ll pay no tax when you use the funds for qualifying expenses. You can read more here.
5. Pay off loans.
It’s never a bad idea to pay off your loans more quickly. You should almost always start with the loan with the highest rate and work your way down. However, it sometimes makes good psychological sense to first pay off a loan with the smallest balance, just for the psychic satisfaction and sense of progress.
6. Invest in a taxable account.
If the first 5 aren’t suitable for you, invest in a taxable account. Depending on your income and state of residence, a low-cost municipal bond fund combined with a stock index fund may make the most sense.
There are 4 “investments” I’d stay far away from:
1. Variable annuities. They’re too complex and the fees are high and hidden. A single-premium income annuity is a different animal and may make good sense if you’re about to enter retirement.
2. Bitcoin and anything else that sounds like it. That’s a path to the intersection of heartache and regret.
3. Your brother-in-law’s latest no-lose investment scheme. Another route to heartache and regret.
4. Lottery tickets and sports betting schemes. Save these for your entertainment budget; but if you must gamble, go to the casino where the odds are usually better and the drinks are free.