Whew! Nothing like waiting until the very last possible minute for a November newsletter, huh? We don’t care what science says these days, we still blame the tryptophan.
It feels like we have been writing about benefits elections ad nauseum recently, but after a quick glance back through the last few months’ newsletters, apparently that’s not true. So with a couple weeks left to make or change your elections (at least for the Healthcare exchange and likely for your own workplace benefits platform as well), let’s go through a Rundown of different places you can put your money. Just don’t eat the Konlobos, it’s worse than tryptophan.
1) Health Savings Account (HSA)
Not to be confused with an FSA, which is not nearly as good. From an efficiency standpoint, nothing beats an HSA for growing your money. Contributions are tax-deductible, growth is tax-free, and withdrawals are also tax-free, provided you use the money on qualified medical expenses - and we guarantee that at some point in the future you will have qualified medical expenses. Your money rolls over year-to-year, there’s no use-it-or-lose-it feature, and it can even be invested.
The downside to HSAs is that you can only have one if you have certain types of healthcare plans - ones with a high deductible and no copays, so everything comes out of pocket. The contribution limits are pretty low ($3,500 for an individual, $7,000 for a family next year), and to really take advantage of the tax-free compounding, you’ll want to pay medical expenses out of pocket and not touch the HSA for a while, which is a tough ask. Even if you spend the thing down to zero every year though, you’re still effectively cutting your medical expenses by your tax rate, which probably equates to something around a 15-20% savings for most of you.
2) 401(k) plans and IRAs
These are the typical retirement savings vehicle for the vast majority of people. 401(k) plans are offered through large employers and IRAs are offered on an individual level. Hence the “I” in IRA. They’re not quite as efficient as HSAs, since you have to pay tax at some point - either upfront with a Roth, or on the back end upon withdrawal with a Traditional - but that tax-free growth does a lot for you over the decades.
The biggest difference between the two is contribution limits. You can put $19,000 into a 401(k) next year, but only $6,000 into an IRA (slightly more on both counts if you’re over 50). Before you ask, yes, you can have as many IRAs as you want but that $6,000 applies as a total amount across all of them. To complicate matters however, the IRS has put income limits on Roth contributions. If you make over $203,000 as a couple or $137,000 as an individual, then no Roth IRA contributions for you. The Roth 401(k) is still fair game though!
And as another kick in the pants from the IRS, you can only deduct Traditional IRA contributions if you either don’t have access to an employer-sponsored plan (like a 401(k)) or if you make under $74,000 ($103,000 for a couple).
It’s hard to say which is better, Roth or Traditional. It ultimately comes down to taxes - will you be paying more in taxes right now than you will in the future? That’s kind of a loaded question though, because there’s a lot more that goes into that prediction than just straight tax rate. There are also some auxiliary benefits that should be considered as well, like the increase in your paycheck from a Traditional over a Roth that might make sense even if you’re in a low tax bracket. Or the flexibility and reduced RMDs that a Roth offers over a Traditional that might make sense even if you’re in a higher tax bracket.
We don’t have a strong preference one way or the other. We’re happy to walk through the differences with you and let you make the decision that feels right. The important thing is that your money is growing tax-free in either case, and there’s no such thing as a “qualified expense” for retirement plans upon withdrawal like there is for HSAs, 529 plans, etc.
3) Savings and Investments
There’s nothing deductible or tax-deferred about these options, but what you give up in terms of tax-advantaged growth you make up for with liquidity. You can access your money whenever you want, penalty free. With a 401(k) or IRA, you pretty much can’t touch the money until age 59 ½. There are certain exceptions to that (check out this article we were quoted in if you’re interested in 401(k) loans), but it’s a pain.
Your emergency fund should be in an interest-bearing savings account. Some online banks will pay you 2% interest now on a savings account. 2%! If you’re a Boomer or a Gen Xer you’re probably laughing to yourself, but if you’re a Millennial you probably haven’t seen bank rates starting with a 2 that you can remember, so yeah, it’s kind of big deal. Your emergency fund can almost keep up with inflation now!
In between an emergency fund on one end and retirement on the other, there are lots of things you might want to save for: a move, travel, a new car, etc. Apart from medical expenses and education expenses, however, there isn’t a dedicated savings option for any of those things; saving for them will either be in a savings account or a brokerage (investment) account. Or maybe you’re not even saving up for anything in particular, you just have more money than you spend and don’t want to keep it under the mattress.
This idea of accessibility is an important one - you’d be surprised how often we run into financially savvy younger clients that are actually putting too much into their retirement accounts. A good rule of thumb is to put away 10-15% every year, and yeah, you can totally do that by maxing out your 401(k) contribution (remember, that’s a full $19,000 next year). But, the issue is that putting all of your savings into a retirement account means that you don’t have savings available for all those things that happen between now and retirement. Not without a 10% penalty, anyway, and paying more money to the IRS should be nobody’s life goal ever.
Having too much savings is a great problem to have, and if you find yourself wondering how to split it among all the available options, we’d be happy to help walk through the choices with you.
If you’re still working on getting to that point, here’s how we’d prioritize:
Take a look at how you’re set up for next year over the next couple weeks and give us a call if you have any questions. If not, then it’s probably time to prioritize getting some holiday decorations up and finishing up any gift shopping. Thanksgiving was a week ago, any tryptophan boost from the turkey has long since been metabolized.
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