Guide to Choosing the Right IRA: Traditional or Roth?

The Roth IRA versus traditional IRA debate has raged on for years.

What many retirement savers may not know is that most of the debate about whether it’s better to contribute to a traditional IRA or a Roth IRA is flawed.

You’ve probably heard that young investors are better off contributing to a Roth IRA because they’ll likely be in a higher tax bracket when they’re older. You’ve probably also heard that if you’re in the same tax bracket now and in retirement, a traditional IRA and Roth IRA will produce the same result.

These arguments are part of the conventional wisdom upon which many people make their decisions, and yet each misses some important nuance and, in some cases, is downright incorrect.

The Biggest Difference Between Traditional and Roth IRAs

There are several differences between traditional and Roth IRAs, and we’ll get into many of them below.

The key difference is in the tax breaks they offer.

Contributions to a traditional IRA are not taxed up front. They are tax-deductible, meaning they decrease your taxable income for the year in which you make the contribution. The money grows tax-free inside the account. However, your withdrawals in retirement are treated as taxable income.

Contributions to a Roth IRA are taxed up front at your current income tax rate. The money grows tax-free while inside the account. And when you make withdrawals in retirement, those withdrawals are not taxed.

Whether it’s better to get the tax break when you make the contribution or when you withdraw it in retirement is the centerpiece of the traditional vs. Roth IRA debate, and it’s also where a lot of people use some faulty logic.

We’ll debunk the conventional wisdom in just a bit, but first we need to take a very quick detour to understand a couple of key tax concepts.

The Important Difference Between Marginal and Effective Tax Rates

Don’t worry. We’re not going too far into the tax weeds here. But there’s a key point that’s important to understand if you’re going to make a true comparison between traditional and Roth IRAs, and that’s the difference between your marginal tax rate and your effective tax rate.

When people talk about tax rates, they’re typically referring to your marginal tax rate. This is the tax rate you pay on your last dollar of income, and it’s the same as your current tax bracket. For example, if you’re in the 15% tax bracket, you have a 15% marginal tax rate, and you’ll owe 15 cents in taxes on the next dollar you earn.

Your effective tax rate, however, divides your total tax bill by your total income to calculate your average tax rate across every dollar you earned.

And these tax rates are different because of our progressive federal income tax, which taxes different dollars at different rates. For example, someone in the 15% tax bracket actually pays 0% on some of their income, 10% on some of their income, and 15% on the rest of their income. Which means that their total tax bill is actually less than 15% of their total income.

For a simple example, a 32-year-old couple making $65,000 per year with one child will likely fall in the 15% tax bracket. That’s their marginal tax rate.

But after factoring in our progressive tax code and various tax breaks like the standard deduction and personal exemptions, they will only actually pay a total of $4,114 in taxes, making their effective tax rate just 6.33% (calculated using TurboTax’s TaxCaster).

As you can see, the couple’s effective tax rate is much lower than their marginal tax rate. And that’s almost always the case, no matter what your situation.

Keep that in mind as we move forward.

Why the Conventional Traditional vs. Roth IRA Wisdom Is Wrong

Most of the discussion around traditional and Roth IRAs focuses on your marginal tax rate. The logic says that if your marginal tax rate is higher now than it will be in retirement, the traditional IRA is the way to go. If it will be higher in retirement, the Roth IRA is the way to go. If your marginal tax rate will be the same in retirement as it is now, you’ll get the same result whether you contribute to a traditional IRA or a Roth IRA.

By this conventional wisdom, the Roth IRA typically comes out ahead for younger investors who plan on increasing their income over time and therefore moving into a higher tax bracket or at least staying in the same tax bracket.

But that conventional wisdom is flawed.

When you’re torn between contributing to a traditional or Roth IRA, it’s almost always better to compare your marginal tax rate today to your effective rate in retirement, for two reasons:

  1. Your traditional IRA contributions will likely provide a tax break at or near your marginal tax rate. This is because federal tax brackets typically span tens of thousands of dollars, while your IRA contributions max out at $5,500 for an individual or $11,000 for a couple. So it’s unlikely that your traditional IRA contribution will move you into a lower tax bracket, and even if it does, it will likely be only a small part of your contribution.
  2. Your traditional IRA withdrawals, on the other hand, are very likely to span multiple tax brackets given that you will likely be withdrawing tens of thousands of dollars per year. Given that reality, your effective tax rate is a more accurate representation of the tax cost of those withdrawals in retirement.

And when you look at it this way, comparing your marginal tax rate today to your effective tax rate in the future, the traditional IRA starts to look a lot more attractive.

Let’s run the numbers with a case study.

A Case Study: Should Mark and Jane Contribute to a Traditional IRA or a Roth IRA?

Mark and Jane are 32, married, and have a 2-year-old child. They currently make $65,000 per year combined, putting them squarely in the 15% tax bracket.

They’re ready to save for retirement, and they’re trying to decide between a traditional IRA and a Roth IRA. They’ve figured out that they can afford to make either of the following annual contributions:

  • $11,000 to a traditional IRA, which is the annual maximum.
  • $9,350 to a Roth IRA, which is that same $11,000 contribution after the 15% tax cost is taken out. (Since Roth IRA contributions are nondeductible, factoring taxes into the contribution is the right way to properly compare equivalent after-tax contributions to each account.)

So the big question is this: Which account, the traditional IRA or Roth IRA, will give them more income in retirement?

Using conventional wisdom, they would probably contribute to the Roth IRA. After all, they’re young and in a relatively low tax bracket.

But Mark and Jane are curious people, so they decided to run the numbers themselves. Here are the assumptions they made in order to do that:

  • They will continue working until age 67 (full Social Security retirement age).
  • They will continue making $65,000 per year, adjusted for inflation.
  • They will receive $26,964 per year in Social Security income starting at age 67 (estimated here).
  • They will receive an inflation-adjusted investment return of 5% per year (7% return minus 2% inflation).
  • At retirement, they will withdraw 4% of their final IRA balance per year to supplement their Social Security income (based on the 4% safe withdrawal rate).
  • They will file taxes jointly every year, both now and in retirement.

You can see all the details laid out in a spreadsheet here, but here’s the bottom line:

  • The Roth IRA will provide Mark and Jane with $35,469 in annual tax-free income on top of their Social Security income.
  • The traditional IRA will provide $37,544 in annual after-tax income on top of their Social Security income. That’s after paying $4,184 in taxes on their $41,728 withdrawal, calculating using TurboTax’s TaxCaster.

In other words, the traditional IRA will provide an extra $2,075 in annual income for Mark and Jane in retirement.

That’s a nice vacation, a whole bunch of date nights, gifts for the grandkids, or simply extra money that might be needed to cover necessary expenses.

It’s worth noting that using the assumptions above, Mark and Jane are in the 15% tax bracket both now and in retirement. According to the conventional wisdom, a traditional IRA and Roth IRA should provide the same result.

But they don’t, and the reason has everything to do with the difference between marginal tax rates and effective tax rates.

Right now, their contributions to the traditional IRA get them a 15% tax break, meaning they can contribute 15% more to a traditional IRA than they can to a Roth IRA without affecting their budget in any way.

But in retirement, the effective tax rate on their traditional IRA withdrawals is only 10%. Due again to a combination of our progressive tax code and tax breaks like the standard deduction and personal exemptions, some of it isn’t taxed, some of it is taxed at 10%, and only a portion of it is taxed at 15%.

That 5% difference between now and later is why they end up with more money from a traditional IRA than a Roth IRA.

And it’s that same unconventional wisdom that can give you more retirement income as well if you plan smartly.

5 Good Reasons to Use a Roth IRA

The main takeaway from everything above is that the conventional traditional versus Roth IRA wisdom is wrong. Comparing marginal tax rates typically underestimates the value of a traditional IRA.

Of course, the Roth IRA is still a great account, and there are plenty of situations in which it makes sense to use it. I have a Roth IRA myself, and I’m very happy with it.

So here are five good reasons to use a Roth IRA.

1. You Might Contribute More to a Roth IRA

Our case study above assumes that you would make equivalent after-tax contributions to each account. That is, if you’re in the 15% tax bracket, you would contribute 15% less to a Roth IRA than to a traditional IRA because of the tax cost.

That’s technically the right way to make the comparison, but it’s not the way most people think.

There’s a good chance that you have a certain amount of money you want to contribute and that you would make that same contribution to either a traditional IRA or a Roth IRA. Maybe you want to max out your contribution and the only question is which account to use.

If that’s the case, a Roth IRA will come out ahead every time simply because that money will never be taxed again.

2. Backdoor Roth IRA

If you make too much to either contribute to a Roth IRA or deduct contributions to a traditional IRA, you still might be eligible to do what’s called a backdoor Roth IRA.

If so, it’s a great way to give yourself some extra tax-free income in retirement, and you can only do it with a Roth IRA.

3. You Might Have Other Income

Social Security income was already factored into the example above. But any additional income, such as pension income, would increase the cost of those traditional IRA withdrawals in retirement by increasing both the marginal and effective tax rate.

Depending on your other income sources, the tax-free nature of a Roth IRA may be helpful.

4. Tax Diversification

You can make the most reasonable assumptions in the world, but the reality is that there’s no way to know what your situation will look like 30-plus years down the road.

We encourage people to diversify their investments because it reduces the risk that any one bad company could bring down your entire portfolio. Similarly, diversifying your retirement accounts can reduce the risk that a change in circumstances would result in you drastically overpaying in taxes.

Having some money in a Roth IRA and some money in a traditional IRA or 401(k) could give you room to adapt to changing tax circumstances in retirement by giving you some taxable money and some tax-free money.

5. Financial Flexibility

Roth IRAs are extremely flexible accounts that can be used for a variety of financial goals throughout your lifetime.

One reason for this is that your contributions are available at any time and for any reason, without tax or penalty. Ideally you would be able to keep the money in your account to grow for retirement, but it could be used to buy a house, start a business, or simply in case of emergency.

Roth IRAs also have some special characteristics that can make them effective college savings accounts, and as of now Roth IRAs are not subject to required minimum distributions in retirement, though that could certainly change.

All in all, Roth IRAs are more flexible than traditional IRAs in terms of using the money for nonretirement purposes.

3 Good Reasons to Use a Traditional IRA

People love the Roth IRA because it gives you tax-free money in retirement, but, as we saw in the case study above, that doesn’t always result in more retirement income. Even factoring in taxes, and even in situations where you might not expect it, the traditional IRA often comes out ahead.

And the truth is that there are even MORE tax advantages to the traditional IRA than what we discussed earlier. Here are three of the biggest.

1. You Can Convert to a Roth IRA at Any Time

One of the downsides of contributing to a Roth IRA is that you lock in the tax cost at the point of contribution. There’s no getting that money back.

On the other hand, contributing to a traditional IRA gives you the tax break now while also preserving your ability to convert some or all of that money to a Roth IRA at your convenience, giving you more control over when and how you take the tax hit.

For example, let’s say that you contribute to a traditional IRA this year, and then a few years down the line either you or your spouse decides to stay home with the kids, or start a business, or change careers. Any of those decisions could lead to a significant reduction in income, which might be a perfect opportunity to convert some or all of your traditional IRA money to a Roth IRA.

The amount you convert will count as taxable income, but because you’re temporarily in a lower tax bracket you’ll receive a smaller tax bill.

You can get pretty fancy with this if you want. Brandon from the Mad Fientist, has explained how to build a Roth IRA Conversion Ladder to fund early retirement. Financial planner Michael Kitces has demonstrated how to use partial conversions and recharacterizations to optimize your tax cost.

Of course, there are downsides to this strategy as well. Primarily there’s the fact that taxes are complicated, and you could unknowingly cost yourself a lot of money if you’re not careful. And unlike direct contributions to a Roth IRA, you have to wait five years before you’re able to withdraw the money you’ve converted without penalty. It’s typically best to speak to a tax professional or financial planner before converting to a Roth IRA.

But the overall point is that contributing to a traditional IRA now gives you greater ability to control your tax spending both now and in the future. You may be able to save yourself a lot of money by converting to a Roth IRA sometime in the future rather than contributing to it directly today.

2. You Could Avoid or Reduce State Income Tax

Traditional IRA contributions are deductible for state income tax purposes as well as federal income tax purposes. That wasn’t factored into the case study above, but there are situations in which this can significantly increase the benefit of a traditional IRA.

First, if you live in a state with a progressive income tax code, you may get a boost from the difference in marginal and effective tax rates just like with federal income taxes. While your contributions today may be deductible at the margin, your future withdrawals may at least partially be taxed at lower rates.

Second, it’s possible that you could eventually move to a state with either lower state income tax rates or no income tax at all. If so, you could save money on the difference between your current and future tax rates, and possibly avoid state income taxes altogether. Of course, if you move to a state with higher income taxes, you may end up losing money on the difference.

3. It Helps You Gain Eligibility for Tax Breaks

Contributing to a traditional IRA lowers what’s called your adjusted gross income (AGI), which is why you end up paying less income tax.

But there are a number of other tax breaks that rely on your AGI to determine eligibility, and by contributing to a traditional IRA you lower your AGI you make it more likely to qualify for those tax breaks.

Here’s a sample of common tax breaks that rely on AGI:

  • Saver’s credit – Provides a tax credit for people who make contributions to a qualified retirement plan and make under a certain level of AGI. For 2017, the maximum credit is $2,000 for individuals and $4,000 for couples.
  • Child and dependent care credit – Provides a credit of up to $2,100 for expenses related to the care of children and other dependents, though the amount decreases as your AGI increases. Parents with young children in child care are the most common recipients of this credit.
  • Medical expense deduction – Medical expenses that exceed 10% of your AGI are deductible. The lower your AGI, the more likely you are to qualify for this deduction.
  • 0% dividend and capital gains tax rate – If you’re in the 15% income tax bracket or below, any dividends and long-term capital gains you earn during the year are not taxed. Lowering your AGI could move you into this lower tax bracket.

Making a Smarter Decision

There’s a lot more to the traditional vs. Roth IRA debate than the conventional wisdom would have you believe. And the truth is that the more you dive in, the more you realize just how powerful the traditional IRA is.

That’s not to say that you should never use a Roth IRA. It’s a fantastic account, and it certainly has its place. It’s just that the tax breaks a traditional IRA offers are often understated.

It’s also important to recognize that every situation is different and that it’s impossible to know ahead of time which account will come out ahead. There are too many variables and too many unknowns to say for sure.

But with the information above, you should be able to make a smarter choice that makes it a little bit easier to reach retirement sooner and with more money.

The post Guide to Choosing the Right IRA: Traditional or Roth? appeared first on MagnifyMoney.

Why Everyone Loves the Zero-Sum Budget

How would you like a budget that lets you spend literally every single dollar you have? That’s exactly how the zero-based budget operates, and it’s growing increasingly popular as a tool to help people save more and spend less.

The concept of zero-based budgeting has actually been around for several decades. It was developed in the 1970s by Peter A. Pyhrr, who worked as a manager at calculator-maker Texas Instruments in Dallas, Texas. At the time, the budgeting method caught on as a popular way for businesses to budget but eventually went out of fashion.

Today, zero-based budgeting is having something of a renaissance, not as a business accounting tool but for helping people manage their personal finances.

How Zero-based Budgeting Works

The goal of zero-based budgeting is to ensure you don’t spend any money that you don’t have to spend. The method gives you an opportunity to review each dollar in your budget and assign amounts to spending categories so that you can get a picture of where all of your money goes each month.

“There should never be any money ‘left over’ because a zero-based budget includes expenses such as ‘investments’ and ‘savings’,” says Scottsdale, Ariz.-based Certified Financial Planner Alexander Koury.

The goal is simple: income – spending = 0

How to Follow a Zero-based Budget

List all of your net monthly income

To kick off your zero-based budget, figure out exactly how many after-tax dollars you have coming in every month (you could track your earnings biweekly, as well).

If you’re a salaried worker with a steady income, it’s fairly simply to predict your earnings. If you do contract work or your income is irregular, you may want to average your income for the past three months to create a starting point, then adjust it accordingly.

List all of your sources of income to get your total income for the budgeting period. That number will be your starting point.

Track your past spending

A benefit of the zero-sum budget is that it “helps create awareness of all outflows and expenses,” says San Francisco-based financial planner Catherine Hawley.

In short, you’ve got to know where your money is disappearing to every month.

When you become fully aware of where all of your money goes, you can discover where you’ll need to control your spending.

Start by listing all of your fixed expenses for each period. Those are expenses that you know you will need to make each period. For example, in a monthly budget you may have rent, utilities, and subscription services listed as your fixed expenses.

Next figure out where you spend your flexible dollars. Try an app like Mint to easily categorize your expenses. Or do it the old-fashioned way with a spreadsheet or pen and paper. Koury recommends pulling your past 12 months of expenses to locate and categorize your purchases.

Create your budget

Once you have your income and expenses calculated, it’s time to throw it all together and zero out your budget.

“Budgeting is the foundation on which financial planning is built. Without having a budget, it is difficult if not impossible to grow and create wealth,” says Koury.

Take your income for the budgeting period and subtract your fixed expenses. Hopefully, you’ll still have money to play with, because next you’ll need to decide how much you want to “spend” on savings and long-term goals like retirement.

“When you list out your expenses, put yourself at the top of the expense list. You are the most important, and you always want to pay yourself first,” says Koury.

Fixed expenses and savings (paying yourself) should always come first on your budget. If you still have money left over, don’t let it sit in your account without a purpose. With a zero-sum budget, every dollar you earn should have a job. Otherwise, it’s easy to lose track of those dollars. Go back to the beginning, when you listed out your spending categories. A trend probably emerged, showing you where you spend the most. Maybe it’s eating out with friends, or buying toys for the kids. Designate a certain amount you’re allowed to spend out of your total budget to those categories. Once you set a limit for spending there, you’re less likely to go overboard.

If you get paid bimonthly or biweekly, you may want to create two versions of a budget — one for the first half of the month and another for the second half of the month to accommodate for bills for fixed expenses due at different times in the month.

Pros and Cons of Zero-based Budgeting

Pro: You know where your money is going.

The best part about a zero-based budget is that you’ll know exactly what you are spending you hard-earned money on. At first, your spending habits may surprise you. You may be shocked that you spent more on dining out than on groceries last night, or that your shopping habit has gone a bit overboard.

“The main reason people use zero-based budgeting is to control their spending habits in the face of impulsive behavior,” says Dr. Constantine Yannelis, an assistant professor of finance at NYU Leonard N. Stern School of Business.

When every dollar you earn is assigned to a task, you are able to visualize and rationalize your budget each period. You can see how cutting back in certain spending categories will help you to reach your financial goals.

Con: A zero balance requires a lot of discipline.

If this is your first attempt at budgeting, you may want to ease into it, as it requires you to be very disciplined.

“[The budget] may become too strict, just like a diet, and if one gets off track even for a bit, they may stray from using it and they may go back to their old ways,” warns Koury.

Unfortunately, the budget that creates a place for every dollar doesn’t leave much room for error.

“The chief pitfall of zero-sum budgeting is that it can decrease flexibility, and if adhered to strictly, it can lead to artificial constraints on what individuals may purchase,” says Hawley.

Don’t be too hard on yourself. It may take a couple of budget cycles for you to get used to your new budget and to adapt it to your lifestyle.

Pro: If you stick to it, you’ll see results.

This budget is not for the commitment-phobic. The zero-balance budget is an exercise.

“It is a very results-based approach to creating great results,” says Koury. “The more disciplined you are in your approach, the more effective the results can be. If you have specific goals, then you would want to use this approach.”

Dr. Yannelis says the zero-balance method is also good for new budgeters because “it provides a commitment device for individuals with difficulty meeting their spending and savings objectives.”

Con: This may not work well for emergencies.

The zero-balanced budget is pretty strict, so “it may not work well if people have unpredictable spending needs due to health issues, children, or other life events,” says Dr. Yannelis.

To combat this, you’ll want to make sure to contribute to an emergency fund each period and to make sure you have insurance coverage for all of the important things — health care, disability, life, home, auto, etc. You can’t predict when an emergency will cost you financially, but it’s better to have cash stashed so a small emergency with the kids won’t interrupt your budgeting goals.

Pro: You can track progress toward your goals.Using this budget — especially when you use it with a budget-tracking tool— can help you see the progress you are making toward your savings and debt repayment goals. If you can stick to the contribution you make each month, you can more easily predict when you will reach your goals.

Mark that date, and stay as close to your budget as possible to reach your goal by it. If you happen not to spend all of your money in a particular category, it has to go somewhere. You can contribute the extra funds to your savings or debt payment goals to beat your target date.

Con: You may be “overdoing” your needs.

The zero-balanced method can get very detailed since you need to track the route of each and every penny.

“It can be more detail than some people need. For some it’s enough to carve out long-term savings and live off the rest,” says Hawley.

Koury says the method works better “for those that are diligent about their finances and are analytical.”

If you make more than enough money, you might not care or feel the need to make a super-detailed budget.

“Some people just like knowing they put a certain amount of money in their savings account monthly, and they spend the rest,” says Koury.

Tools to Help You Master Your Zero Balance

EveryDollar and EveryDollar Plus

EveryDollar is the budgeting app created by personal finance guru Dave Ramsey, who popularized the zero-based budget for personal use. You can use it on your desktop or smartphone.

The app automatically creates eight spending categories that cover the basics of most budgets, but you can create budget-specific custom categories, too. It also lets you set up “funds,” which are saving accounts. This lets you set aside money for an emergency fund or other savings goal. The app also sends you tons of reminders to stay on top of your goals.

In addition to the basic version of EveryDollar, there is a premium version called EveryDollar Plus that can be connected with your bank account to pull in your transactions automatically.

You Need a Budget (YNAB)

You Need a Budget — aka YNAB — is budgeting software that’s also available for desktop and mobile devices. The company’s mantra, “Give every dollar a job,” describes its zero-balance foundation.

It prompts you to assign the money you have to a budget category. When you have one month’s worth of expenses fully funded, you can start budgeting funds for future months.

YNAB will cost some money to use. The platform offers a 34-day free trial, after which you will have to pay either $5 a month or $50 a year. Students can get 12 months of YNAB budgeting for free, after which they’ll be eligible for a 10% discount for one year.

The post Why Everyone Loves the Zero-Sum Budget appeared first on MagnifyMoney.

Review: You Need a Bugdet (YNAB) — The Budgeting Tool That Makes Every Dollar Count

YNAB app-spread

You Need a Budget (YNAB) is subscription-based budgeting software available both on desktop and mobile devices. Its trademark mantra is, “Give every dollar a job.” That means as you have money coming in, you assign it a budget category. Once you have one month’s worth of expenses fully funded, you can start budgeting funds for future months.

How Does ‘You Need a Budget’ Work?

When you first sign up for You Need a Budget, you will be asked to link your checking, savings, and credit card accounts. This allows the app to see exactly how much money you have at this very moment.

Next, you’ll add upcoming transactions like rent, utilities, and groceries. As you add these expenses, you’ll also be prioritizing them. The ones that are most important (generally rent or mortgage payments) will go on top, and the ones that are a little more frivolous like entertainment spending will go at the bottom.

After you’ve set up transactions you know are coming, you’ll be able to establish goals. You can set up goals by a date, in which case the app will tell you how much you have to save per month to meet your objective. You can also set them up by how many dollars you’d like to allocate toward them per month, in which case the app will tell you how long it will be until they are fully funded (or in the case of debt repayment goals, paid off).

YNAB direct-import-setup

You’ve linked accounts. You’ve accounted for bills and upcoming spending. You’ve set goals. Now it’s time to fund all of those things! You start with the money you have, and not a penny more. You assign each dollar to a certain line item, again, starting with the most important items at the top. Once you reach the end of your current funds, you won’t be able to budget any more until you get more cash in your hands.

If you are able to fully fund one whole month, then you can use any excess funds on hand to start funding the next month. The more you do this, the happier the founders of YNAB get. Their entire philosophy is that you should “age your dollars,” meaning the further in advance you can fund a transaction or goal, the more financial stability you will have.

How Much Does ‘You Need a Budget’ Cost?

Currently, You Need a Budget offers a 34-day free trial — no credit card required. After that, you will have to pay either $5 per month or $50 per year. Students get twelve months free, after which they’ll be eligible for a 10% discount for one year. If you have a previous version of YNAB, you’ll be able to score a 10% lifetime discount on the latest version.

Fine Print

ynab-app-icon-1024YNAB is extremely transparent and seemingly ethical in their practices. They do not sell information to third parties, but may give others access to it in the course of business as they work to facilitate the software through companies such as Amazon Web Services and Finicity, which are two trusted names in the Fintech industry as far as security is concerned. Your data is always encrypted, and will be completely and irreversibly deleted upon request should you ever choose to close your account.

Pros and Cons

You Need a Budget is commonly recognized as one of the best budgeting apps around. That doesn’t mean that it’s perfect for everyone, though. Think through the pros and cons before downloading.

Pros

  • Transparent company.
  • Committed to security and positive user experience.
  • Helps you change your financial habits through a simple, yet revolutionary, process.
  • Prioritizes your expenses each month.
  • Forces you to address overspending.
  • Allows you to set goals.
  • Can be used by those who get paid regularly and receive W-2s or by freelancers.
  • There are user guides and lessons accessible to members to deepen your understanding of common personal finance principles and concepts.
  • There is a community where you can get support.

Cons

  • There is a price for your subscription.
  • This won’t be good software for you if you’re a percentage budgeter as the interface makes no allowance for that method.
  • At this point in time, there are no reports or analyses to help you disseminate your habits. They are promised on the horizon, though.

How Does ‘You Need a Budget’ Stack Up against the Competition?

YNAB is an extremely useful and user-friendly app. However, it does come with a fee and is far from the only budgeting software on the market. Here are some other options you may want to check out if the YNAB $50 annual subscription is getting you down:

Mint.com

While it may not use the “give every dollar a job” philosophy, Mint.com solves very similar budgeting problems in a very free way. It allows you to link accounts, plan for upcoming expenses, and set goals. It also provides charts and graphs to analyze your past behavior and provides your FICO score at no charge — two things YNAB doesn’t do. The biggest con to this no-cost application is that it is laden with ads.

Wally

If you don’t like the idea of your financial accounts being linked to a third-party app, another free option is Wally. When you use this app, you’ll have to be a lot more diligent at inputting your income and expense as none of it will be automated, but that’s the price you pay for keeping your bank account info completely separate.

Level Money

Level Money is a free app that allows you to link accounts, gives you insights into how much you have left to spend in any given category on any given day, and comes 100% ad-free. This app isn’t the best for the self-employed or those with variable income, and also isn’t as useful for those who make a lot of cash purchases.

Who Should Use You Need a Budget?

You Need a Budget is great for anyone who wants to get a hold on their money today, but doesn’t necessarily want to analyze their past spending. It’s developed for people who prefer budgeting by dollars rather than percentages, and comes with extra savings for students who are trying to establish good money habits at a younger age. It is time-tested, and is created by a company that has continually shown it cares for its customers.

The post Review: You Need a Bugdet (YNAB) — The Budgeting Tool That Makes Every Dollar Count appeared first on MagnifyMoney.

Planning the Perfect Gap Year Doesn’t Have to Break the Bank

14397435_10153850115048483_1785139792_nThe gap year — taking a year off from formal education to travel, participate in social projects, or gain work experience — is growing in popularity among American students. Just ask Malia Obama. The first daughter announced back in May that she would be taking a gap year before attending Harvard University.

She’s among those contributing to a 22% increase in American students taking part in the practice already common among students in Europe and Australia, according to the American Gap Association. Some families spend hundreds of dollars on gap-year consultants.

Like Harvard, many higher education institutions encourage students to take gap years. The reason: a push toward experiential learning. Schools increasingly see value in the life experience, maturity, and other skills that gappers return with.

“We have more information in the palm of our hands than ever. So why are we teaching [students] information? They don’t need information,” said American Gap Association Executive Director Ethan Knight. “They need experience to know what to do with that information.”

Jamie Hand, 23, a senior at Middlebury College in Vermont, echoes the sentiment. She said her gap-year trip to São Luís, Brazil with Rotary Youth Exchange allowed her to “take a break from this rat race that I felt like I was in.” At the time, she was 18 years old and wanted to take time off before beginning her freshman year. Though she already had a high school diploma under her belt, the program involved taking classes at a local high school in Franklin, W. Va.

“It felt like I was taking this big breath and I was free to excel but I didn’t have to excel,” said Hand. “It was one of the times when I learned the most in my life [because] I didn’t have to.”bike_ride_in_brasilia

The Cost of a Gap Year

Gap years may seem like a privilege only available to families wealthy enough to finance them. It’s true that some gap-year programs can easily cost more than a year’s worth of college tuition. Families pay over $35,000 — close to the average cost of a four-year degree these days — to participate in the “Global Gap Year,” a program offered by Thinking Beyond Borders, which offers gap-year and study-abroad programs. During their global year abroad, students split their time between homestays on three different continents.

But the gap-year experience isn’t just for the super-rich.

MagnifyMoney caught up with some current and previous gappers to find out how they made it work.

Go the DIY Route

Brandon Stubbs, 18, motivated by his interest in Southeast Asian archaeology, decided to defer his acceptance to Brown University for a year to travel to Malaysia for two months this fall.

Rather than paying for a trip through a travel agency, which could easily have cost several thousand dollars, he did some research on his own. Stubbs found a hostel in Johor Bahru, where he will be able to work in exchange for room and board.

To save on airfare, he booked a round-trip ticket to Malaysia for just $500 with StudentUniverse, a site that offers cheaper fares to students. When he’s not working, Stubbs plans to spend his free time sightseeing and exploring the city.

imgp9570“I’m most excited to explore an entire different area of the world,” said Stubbs, who said he grew up enthralled by the exotic locales in movies like Indiana Jones.

When he returns to the U.S. from Malaysia in November, Stubbs’ gap year will continue with a stop in New Orleans. He plans to take time off for the holidays and then move to the Big Easy, where he’ll work at a hostel in exchange for room and board.

“I feel like taking a gap year will sort of increase my momentum. High school wasn’t an easy experience mentally,” said Stubbs. “I feel like in a year I’ll be rejuvenated and ready to jump back into my studies.”

Get College Credit for the Program

A great way to save money and kill two birds with one stone during a gap year is to earn college course credits along the way. Some schools offer course credit to students who take gap years. Students may even be able to use financial aid dollars toward their gap-year experience.

Some schools have specialized programs or fellowships for gappers like UNC Chapel Hill’s fellowship, or Princeton University with its Bridge Year. Others, like Elon University, offer their own version of an experiential learning program for first-year students.

There are even some gap-year programs that will not only give you a stipend, but contribute to the cost of your college education like those offered through AmeriCorps or City Year.

Work Now, Play Later

Breaking up a gap year into smaller trips or working for part of the year can help to reduce overall costs. If you budget well, the money you earn could fund your travels.

Jericho, Vt., student Asher Small, 19, who will begin his first semester at Brown University this fall, also worked at a ski resort in Utah for part of his gap year.

“It was kind of like a dream job because I love to ski,” said Small. In addition to his $8/hour wages, the resort subsidized his room and board, leaving him with just $300 to cover each month.

Small worked at the ski resort for four months. Before making his way back home, he took a road trip through Southern Utah and California and participated in a 10-day meditation course retreat. To save on lodging, he used couchsurfing.com, a service that connects benevolent hosts with houseguests. He estimates he ended up saving about $2,000 from his work at the resort after the trip.

Working or interning during a gap year can also be a great way to build skills or experience for the subject you’re interested in majoring in once you get to school. Some programs will pay you for work abroad or offer perks like free room and board as an incentive. For example, if you have a green thumb, you could volunteer to work at an organic farm or winery through a program like World Wide Opportunities on Organic Farms during your gap year in exchange for food and accommodation.

Before he went to Utah, Small spent the first half of his gap year in Desab, Haiti, with Volunteers For Peace, a nonprofit volunteer organization. There, Small taught an English class to local residents. The trip cost him about $1,500 in total, which he paid with funds he saved from past summer jobs.

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Stay Close to Home

Keeping your gap-year experience stateside can be an easy way to minimize travel expenses, reducing the overall costs of a gap year. Staying in the U.S. doesn’t mean you’ll have any less of a cross-cultural experience.

Start Saving Early

Knight recommends planning your gap year at least six months from the date you want to travel, so you’ll have ample time to save up.

Stubbs worked all four years of high school as a junior college tutor and as a camp counselor at a music camp. Doing so helped him to save about $3,000 to spend on his trip to Malaysia and Louisiana.

Small worked over the summers prior to his gap year as well. Those funds helped him with his trip to Haiti.

Tap into Your Savings

If your parents have been saving up for college, you may be able to use some of that money to finance a gap-year program, although it may mean sacrificing going to a more expensive college.

Gabe Katzman, 24, was considering the University of Maryland, where he would pay in-state tuition, and other, more expensive out-of-state institutions at the time he was planning his gap year in Israel.

His parents presented him with the option to use some of his college savings to fund the trip, which cost about $16,000 to $17,000. Because the cost was close to a year’s worth of tuition at the pricey out-of-state school, his parents told him they could only help him finance his gap year if he decided to stay in state.

Ask for Free Money: Grants, Scholarships, Trusts, and Charities

Find an organization, trust, or charity that’s aligned with the focus of your trip and ask if they have any grants or scholarships that you can apply for and that would be applicable toward your gap year.

Local associations, businesses, schools, and charities such as the Rotary Club or Lions Clubs International award grants, or scholarships may even be able to sponsor students who meet certain criteria and goals.

When Katzman decided he wanted to spend 9 months in Israel with Habonim Dror’s Workshop, a gap-year program run through his childhood camp, Habonim Dror Camp Moshava, the first thing he did was look for scholarships and grants to help him cover the $16,000 the trip would cost.

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“I talked to my synagogue,” said Katzman. “I knew that if I connected with the synagogue they [would support me].” In the end, they gave him about $3,000.

Katzman then asked other organizations including one called Masa, an Israeli organization that advocates interning and volunteering in Israel, adding another $1,000 to his fundraising goal. Next, he went to the Jewish Community Center of Greater Washington.

After he got some funding through community organizations, Katzman turned to his family and friends to help out.

“I talked to all of my family. Instead of a Hanukkah or birthday present, I asked them to give me money for the trip,” said Katzman.

The rest of the funds came from his own savings from working as a lifeguard and camp counselor while in high school.

Get Creative

Katzman and the group he went to Israel with saved money by pooling their resources.

“We were living a socialist lifestyle with a group of 23. We had a shared bank account that we all put money into. Some of us put $2,000 and some put just what they could,” said Katzman.

The shared account allowed them to prioritize the group’s experience as opposed to the individual and kept them out of “a situation where someone felt excluded because they couldn’t afford it,” said Katzman.

Two of the members in Katzman’s group were co-treasurers of the shared account and managed the group’s budget. If some or all of the group’s members went out to eat or someone in the group needed to replace a pair of shoes, the money to pay for it came from the shared account. At the end of the trip, they had a little left over to donate back to the camp.

Stubbs, who already has his room and board covered with the hostel, also plays the trumpet. He plans to finance some of his living expenses while in Malaysia this fall and New Orleans in the spring with money earned from street performing or “busking.”

Some Final Advice: You have to want it.

“Sometimes coming up with the money for something like this can be really discouraging because it’s really expensive,” said Katzman.

But setting aside time for a gap year was well worth the added cost and effort. After he graduated from college, Katzman decided to move to Haifa, Israel, full-time, where he is working part-time to lead this year’s Habonim Dror gappers and taking Hebrew classes.

“I grew more in one year than I think the average college student would have grown,” he added. “It affected what I did in college, it affected my choices during college and afterward [when I decided to] live here.”

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The post Planning the Perfect Gap Year Doesn’t Have to Break the Bank appeared first on MagnifyMoney.

3 Reasons You Earn More But Still Feel Broke

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If you’re earning more but still feel like you’re living paycheck to paycheck, there’s a likely culprit: lifestyle inflation. Lifestyle inflation is the ultimate budget-killer — a widespread phenomenon that occurs when people spend more as their income increases. Before they know it, that raise or bonus they earned slowly but surely disappears … right into that cell phone upgrade, a bigger apartment, or those few extra takeout orders each week.

Any financial planner can offer sound, reasonable methods for avoiding this problem: Stick to a budget. Automate your savings. Bump up your 401(k) contribution. The solutions seem easy enough, but no matter how much more you earn, you still feel like you’re living paycheck to paycheck.

We’ve come up with three simple reasons why you might still feel broke — even though you’re earning more — along with strategies on how to overcome them.

You don’t know what you want from life.

One reason many people struggle to keep their spending in check as their income increases is that they aren’t intentional about how they spend their money, says Meg Bartelt, founder and president of Flow Financial Planning. Bartelt encounters this problem every day with her clients, who are mostly women working in the tech industry who earn healthy paychecks but live in expensive cities.

When people are clear about their reasons for earning money and the goals they hope to achieve with those earnings, it becomes easier to avoid the kinds of incremental spending increases that can quickly consume their budget.

“Ask yourself why you worked hard for a raise,” says Bartelt. “Was it so that you could eat out more or buy fancier clothing or have a better streaming subscription … or was it so that you could make a meaningful change in your life?”

Goals — whether it’s being able to retire at 45 instead of 65, sending your child to college, or buying a home — give workers a reason to keep an eye on their spending from paycheck to paycheck.

To help figure out your financial goals, Bartelt suggests asking yourself a specific set of questions:

What do you want out of life?
What do you want to do, have, or accomplish?
How much money is it going to take to get you there?
And how are you going to get that money?

Taking this approach may also make the concept of budgeting more palatable. Saying “no” to a few upgrades in your life will feel less like deprivation, and more like a positive step toward the future you imagine for yourself.

You compare yourself to others.

Nothing can threaten a healthy budget like a serious case of “FOMO” — fear of missing out.

It can be hard to keep long-term, big-picture goals in mind amid the constant stream of filtered photos of international trips and nights out posted on social media. “It’s a huge contributor [to lifestyle inflation], especially for younger generations,” says Stephen Alred Jr., founder of Atlanta, Ga.-based financial planning firm Ignite Financial. Constant, real-time coverage of internet acquaintances’ adventures can make people feel worse about the state of their own lives and distract them from what they really want or need. Then, when a raise or a bonus comes into play, they are more likely to spend it on something that fits into that picture of what they think they should be doing, rather than what works best for their future goals.

It’s important to remember that you won’t get the full picture of someone’s life by looking at their social media profile — for example, you won’t know that the friend who took the tour of Italy last summer is still paying off the resulting credit card bill a year later, and you won’t see that a person only ordered appetizers at that fancy restaurant she went to last week, says Alred. Focusing on your own needs and goals, separate from those of the people in your life and in your social network, is critical to being happy with the state of your finances and your life, now and in the future.

You haven’t addressed negative spending patterns.

Once your financial goals begin to take shape, the hard part isn’t quite over. If you have a pattern of spending money as soon as it’s in hand, it’s going to take a while to change that behavior. Alred calls this a “behavioral barrier” — something people do every day with money that prevents them from reaching their financial goals.

It’s calling Uber every time you’re at the office later than 5 o’clock. It’s using your credit card to pay for even the smallest purchases. It’s grabbing a $15 salad for lunch every day.

These behaviors can crush financial goals, whether a person earns $30,000 or $300,000. Getting the right habits in place now will not only help combat lifestyle inflation this year — it will help down the road as income (hopefully) continues to grow.

Come up with strategies to help break those negative spending habits. For example, we’ve written about a simple $20 rule that can help break your credit card addiction.

But don’t be too tough on yourself. You shouldn’t deprive yourself of simple pleasures or pinch pennies to the point that you’re putting your mental or physical health at risk. Budget for the things that you know will bring you happiness, like the weekly dinner with friends you can’t miss or your daily $5 latte.

“Be clear about what’s important to you,” says Mary Beth Storjohann, financial planner and founder of Workable Wealth. “You can do it all, you just can’t do it all at once.” Once debts and savings goals are taken care of, “20% should go toward something fun,” says Storjohann. Building in some flexibility will help you avoid stress and self-loathing down the road — and will allow the occasional indulgence without throwing savings goals off track.

The bottom line:

Rigid financial rules may work for some, but will be hard to implement without a solid reason for following them.

“It’s like a diet. If you restrict your calories significantly, maybe you can last for a week or a month,” says Bartelt. “But most likely, you’ll revert to your old habits in the long run.”

 

The post 3 Reasons You Earn More But Still Feel Broke appeared first on MagnifyMoney.

Retirement Accounts: What You Need to Understand

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With mounting concerns over Social Security, and a languishing number pensions, it’s more important than ever to start investing for retirement. Tax advantaged retirement accounts offer investors the best opportunities to see their investments grow, but the accounts come with fine print. These are the things you need to know before you start investing.

What are employer sponsored retirement accounts?

Employee sponsored retirement accounts often allows you to invest pre-tax dollars in an account that grows tax-free until a person takes a distribution. In some cases, you may have access to a Roth retirement account which allows you to contribute post-tax dollars. Contributions to employer sponsored retirement accounts come directly from your paycheck.

The most common employee sponsored retirement accounts are defined contribution plans including a 401(k), 403(b), 457, and Government Thrift Savings Plan (TSP). Private sector companies operate 401(k)s, public schools and certain non-profit organizations offer 403(b)s, state and local governments offer 457 plans, and the Federal government offers a TSP. Despite the variety of names, these plans operate the same way.

According to the Bureau of Labor Statistics, 61% of people employed in the private sector had access to a retirement plan, but just 71% of eligible employees participated.

How much can I contribute? 

If you’re enrolled in a 401(k), 403(b), 457, or TSP, then you can invest up to $18,000 dollars to your employer sponsored retirement accounts per year in 2016. If you qualify for multiple employer sponsored plans, then you may invest a maximum of $18,000 across all your defined contribution plans. People over age 50 may contribute an additional $6,000 in “catch-up” contributions or $3,000 to a SIMPLE 401(k).

In addition to your contributions, some employers match contributions up to a certain percentage of an employee’s salary. Visit your human resources department to learn about your company’s plan details including whether or not they offer a match.

What are the benefits of investing in an employer sponsored retirement plan?

For employees that receive a matching contribution, investing enough to receive the full match offers unparalleled wealth building power, but even without a match, employer sponsored plans make it easy to build wealth through investing. The funds to invest come directly out of your paycheck, and the plan invests them right away.

However, there are fees associated with these accounts. Specific fees vary from plan to plan, so check your company’s fee structure to understand the details, especially if you aren’t receiving a match. If you don’t have an employer match, then it may make more sense to contribute to your own IRA in lieu of the employer-sponsored plan.

Investing in an employer sponsored means getting to defer taxes until you withdraw your investment. Selling investments in a retirement plan does not trigger a taxable event, nor does receiving dividends. These tax benefits provide an important boost for you to maximize your net worth.

In addition to tax deferred growth, low income investors qualify for a tax credit when they contribute to a retirement plan. Single filers who earn less than $41,625 or married couples who earn less than $61,500 qualify for a Saver’s Tax Credit worth 10-50% of elective contributions up to $2000 ($4000 for married filers).

What are the drawbacks to investing in an employer sponsored retirement plan?

Investing in an employer sponsored retirement plan reduces the accessibility of the invested money. The IRS punishes distributions before the age of 59 ½ with a 10% early withdrawal penalty. These penalties come on top of the income taxes that you must pay the year you take a distribution. In most cases, if you withdraw money early pay so much in penalties and increased income tax rates (during the year you take the distribution) that you would have been better off not investing in the first place.

Additionally, investing in an employee sponsored retirement plan reduces investment choices. You may not be able to find investment options that fit your investing style through their company’s plan.

Should I take a loan against my 401(k) balance?

Since money in 401(k) plans isn’t liquid, some companies allow you  to take a loan against your 401(k). These loans tend to be low interest and convenient to obtain, but the loans come with risks that traditional loans do not have. If your job is terminated, most plans offer just 60-90 days to pay off the loan balance, or the loan becomes a taxable distribution that is subject to the 10% early withdrawal penalty and income tax.

It is best to only consider a 401(k) loan for a short term liquidity need or to avoid them altogether.

What if I don’t qualify for an employer sponsored retirement plan?

If you’re an employee, and you don’t have access to an employer sponsored retirement plan you have to forgo the tax savings and other benefits associated with the accounts, but you may still qualify for an Individual Retirement Account (IRA).

However, if you pay self-employment taxes then you can create your own retirement plan. Self-employed people (including people who are both self-employed and traditionally employed) can start either a Solo 401(k) or a SEP-IRA.

A Solo 401(k) allows an elective contribution limit of 100% of self-employment income up to $18,000 (plus an additional $6000 in catch up contributions for people over age 50) plus if your self-employed, then you can contribute 20% of your operating income after deducting your elective contributions and half of your self-employment tax deductions (up to an additional $35,000).

If you qualify for both a Solo 401(k) and other employer sponsored retirement plan, then you cannot contribute more than $18,000 in elective contributions among your various plans.

A SEP-IRA allows you to contribute 25% of your self-employed operating income into a pre-tax account up to $53,000.

What are Individual Retirement Accounts?

Individual Retirement Accounts (IRAs) allow you to invest in tax advantaged accounts. Traditional IRAs allows you to deduct your investments from your income, and your investments grow tax free until they are withdrawn (at which point they are subject to income tax). You can contribute after-tax money to Roth IRAs, but investments grow tax free, and the investments are not subject to income tax when they are withdrawn in retirement. There are income restrictions on being eligible for deductions and these vary based on household income and if an employer-sponsored retirement plan is available to you (and/or your spouse).

What are the rules for contributing to an IRA?

In order to contribute to an individual retirement account, you must meet income thresholds in a given year, and you may not contribute more than you earn in a given year. The maximum contribution to an IRA is $5500 ($6500 for people over age 50).

A traditional IRA allows you to defer income taxes until you take a distribution. Single filers who earn less than $61,000 are eligible deduct one hundred percent of deductions, and single filers who earn between $61,000 and $71,00 may partially deduct the contributions. Couples who are married filing jointly may make contribute the maximum if they earn less than $98,000, and they may make partial contributions if they earn between $98,000 and $118,000.

Roth IRAs allow participants to invest after tax dollars that are not subject to taxes again. The tax free growth and distributions can be especially beneficial for those who expect to earn a high income (from investments, pensions or work) during retirement. Single filers who earn less than $117,000 can contribute the full $5,500, and those who earn between $117,000 and $132,000 can make partial contributions. Couples who are married filing jointly who earn less than $184,000 may contribute up to $5500 each to Roth IRAs, and couples who earn between $184,000 and $194,000 are eligible for partial contributions.

What are the benefits to investing in an IRA?

The primary benefits to investing in an IRA are tax related. Traditional IRAs allow you to avoid paying income taxes on your investments until you are retired. Most people fall into a lower income tax bracket in retirement than during their working years, so the tax savings can be significant.  Roth IRA contributions are subject to taxes the year they are contributed, but the IRS never taxes them again. Investments within an IRA grow tax free, and buying and selling investments within an IRA does not trigger a taxable event.

Additionally, low income investors also qualify for a tax credit when they contribute to a retirement plan. Single filers who earn less than $41,625 or married couples who earn less than $61,500 qualify for a Saver’s Tax Credit worth 10-50% of elective contributions up to $2000 ($4000 for married filers).

IRAs also allow individuals to choose any investments that fit their strategy.

What are the drawbacks to investing in an IRA? 

Investing in an IRA reduces the accessibility of money. Though it is possible to withdraw contribution money for some qualified expenses, many distributions are to be subject to a 10% early withdrawal tax penalty when a person takes a distribution before the age of 59 ½. In addition to the penalty, the IRS levies income tax on distributions the year that you take a distribution from a Traditional IRA.

Should I withdraw money from my IRA?

Taking a distribution from an IRA means less money growing for retirement, but many people use distributions from IRAs to meet medium term goals or to resolve short term financial crises. The IRS publishes a complete list of qualified exceptions to the early withdrawal penalty.

If you have to pay the penalty, withdrawing from an IRA is not likely to be the right choice. Once the money is withdrawn from an IRA it can’t be contributed again. For short term needs, taking out a loan usually comes out ahead.

What’s the smartest way to invest?

Investing between 15-20% of your gross income for 30 years often yields a reasonable retirement nest egg, but even if you can’t invest that much right now, it’s important to get started. The smartest place to invest for retirement is within a tax advantaged retirement account.

If you don’t have access to an employer sponsored plan the best place to start is by investing in an IRA. On the other hand, if you have access to both an employer sponsored plan and an IRA, the answer is not as clear. Anyone who has an employer with a matching policy should aim to invest enough to take full advantage of any matching plan that your company has in place.

After taking advantage of a match, the next best option depends on your personal situation.

Employer sponsored plans and Traditional IRAs offer immediate tax benefits that can be advantageous for high income earners. However, investing in a Roth IRA keeps money more liquid than either an employer sponsored plan or a traditional IRA.

Of course, the best possible scenario for your retirement is to maximize contributions to both an employer sponsored account and an individual retirement account, but you should carefully weigh how investing in these accounts affects your whole financial picture and not just your retirement goals.

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5 Questions to Ask Before Choosing the Right IRA Provider

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Choosing the right IRA provider can be challenging, especially when you don’t know what you should be looking for when choosing one. Let’s help you cut through the confusing financial jargon and focus on what you should be aware of when making this important decision.

You’ve finally determined that an IRA is the right move for you… now what?

The internet can be a great place to find information, products and services, however, there is no good way to separate the helpful advice from the misinformation. And, that’s why it’s so important to know what questions to ask. Here are the key areas to focus on when choosing your IRA provider.

1. What investment options are available on the platform?

If you already have or are looking to open an IRA, you probably understand the value of saving for retirement. The goal is to save (and hopefully grow) your money for the future. In order to set yourself up for success, it’s important to choose the appropriate investments for you.

We aren’t going to get into the details about determining which investments to choose, but we will look at what options are available on various platforms. Depending on which provider you choose, you may have access to a number of investment options including money market accounts, CDs, mutual funds, exchange traded funds, stocks, and bonds (this list could go on, but these are the most common options).

Each of these choices will expose you to varying degrees of risk and it is important to choose a platform that suits your needs. Some banks might allow you to open an IRA, but they may not have options outside of a basic interest bearing account, like a money market or a CD. These types of accounts are fine if your goal is to not lose money. The problem is that the interest rates are so low that you will have a difficult time beating inflation over time. The end result is that you will be losing buying power, which is a fancy way of saying that prices on products and services will rise faster than your money.

Other platforms like Fidelity, Vanguard or TD Ameritrade, will provide basic interest bearing options as well as investments that provide exposure to the stock market in the form of stocks, bonds, mutual funds and exchange traded funds (ETFs). These investments can allow you to design a diversified investment portfolio that can potentially grow your money for the long term.

Overall, you want to find a platform with a variety of investment options, ranging from the basic money market account, to index funds, target date funds (funds with a retirement year in the name that automatically move from aggressive to conservative based on your projected year of retirement) and maybe additional mutual funds that focus on specific sectors. This last group is not necessary unless you enjoy choosing your own specific asset allocations.

CFP opinion: Investments (other than stocks and bonds) will come with internal fees called “expense ratios”, the average of which is about 1.2%. These fees are common, so there is no need to avoid them completely. However, there are plenty of investments that charge well below 0.50%, so unless you have a compelling reason to choose a more expensive option, I would stick with the ones with lower expense ratios.

2. What platform fees should I be aware of?

Many providers will gladly accept your money because they know that they will earn revenue from the fees they charge. These fees include account maintenance fees, transactions fees (commissions), low balance fees, account transfer/termination fees, among others.

The size of these fees will range by type; some of them will be free, while others will cost as much as $200 dollars or more.

For example, when you open an IRA with Vanguard and invest in Vanguard mutual funds or ETFs, you will not pay sales loads, 12b-1 fees or commissions. You may also avoid paying annual account service fees by setting up online account access. However, you may be paying all of these transaction fees on other platforms. These fees can range from $8 to $60 or more per trade (buying or selling an investment). Others show up in the form of a percentage of your assets (12b-1 fees). I would suggest avoiding 12b-1 fees all together, as they are hidden fees that can really eat up returns.

The downside of going with a platform like Vanguard is that you won’t gain access to more sophisticated investment options (i.e. options, futures, margin accounts). I wouldn’t recommend using these types of investments anyway unless you consider yourself an investment expert and have the time to do the ongoing research necessary to maintain such a portfolio. So, in the end, this isn’t really a negative for most people.

Many platforms will also charge an account transfer and/or account termination fee. So, if you decide that you want to move your account elsewhere, you may be hit with a $25, $50, or even a $200 charge. I don’t recommend moving your IRA account often, however, you should be aware of what to expect if you decide to make a change.

The good news is that any platform you speak with should be able to provide you with a fee schedule that will list all possible fees. This is an important step before making the decision to open an account with a specific provider. Once you know the fees, you can make an intelligent decision on whether they are worth paying for. Most fees are not worth the cost, as every dollar that goes to fees is one more dollar that can’t be invested. Over time, this can add up to a lot of wasted money.

CFP opinion: I suggest finding a platform that charges very few fees. Choose one that will not charge transaction fees, low balance fees or other commissions. Ideally, you will also find one that does not charge IRA custodian fees. The one acceptable fee is an account termination fee, as the goal is to minimize the amount of times you move your account anyway. I would keep this fee under $100 just in case you do need to move it.

3. What about advisory fees?

Depending on where and how you open your account, you may also pay a financial advisor a fee to manage the account. This often comes into play when you are working directly with an advisor to manage your investments. This fee should be disclosed by your adviser at the onset of the relationship, however, don’t assume that it will be clear. The fee can range from 0.10% to as high as 2%+ depending on the advisor’s company and the way they charge (fee or commission).

Make it a point to ask how much you are being charged and what the fee covers. There are many reasons to pay a financial advisor to manage your investments, but you must be clear on the value you receive for the fee. If it’s not clear to you, don’t pay the fee.

CFP opinion: If you would like to work with an advisor, find a fee-only fiduciary who has your best interests in mind. Don’t pay more than a 1% advisory fee for your investments. There are plenty of excellent advisors out there who will charge this rate or less.

4. Are cash bonus offerings worth it?

Some platforms might offer special cash bonuses for opening an IRA and investing a certain amount of money within a period of time. Getting free money might sound great, but make sure to read the fine print and be aware of the above questions before moving forward. For example, Ally Bank is offering $500 if you open an account and rollover $200,000 from another retirement account.

Transferring that amount of money will be a roadblock for most people, however, even if you can do it, the bonus isn’t that great. It adds up to 0.25% (or less) of the account value. Also, you won’t have access to investments, only CDs and other interest bearing accounts with interest rates below 2%. Ally is a great banking option, but doesn’t have the options and flexibility most people require in an IRA.

Other platforms might offer the bonus but require you to invest in an annuity or keep your money in the account for a certain amount of years. If the rules aren’t followed, you can be hit with some pretty harsh penalties of up to 10% of your account balance.

CFP opinion: Don’t choose the platform based on the bonus. If you would select the platform with or without the bonus, then it might be a good option. It shouldn’t be one of the major determining factors.

5. Is the platform easy to use?

You should also ask to take a test drive on the platform. Many providers will (virtually) walk you through the online experience or point you to a video that will show you what to expect. Pay attention to how easy (or difficult) it is to access and make changes to your account. If you find that the platform is clunky, this may be a good reason to go elsewhere. With so many technological advances in the past 10 years, you should be able to see your account activity and investment allocations online from anywhere in the world.

As with all financial choices you make, it’s important to understand your specific goals and intentions for your IRA money. The best option for you will vary depending on your goals, age, wealth level, time horizon and risk tolerance. In general, you should look for an easy to use platform with online access, low fees, a variety of investment options and great customer service. It’s important to feel comfortable with all aspects, as you don’t want any excuse for ignoring your retirement money. Consistently contributing to and managing your money is paramount to a successful retirement.

The post 5 Questions to Ask Before Choosing the Right IRA Provider appeared first on MagnifyMoney.

EveryDollar and EveryDollar Plus: a Budgeting App to Keep You On Track

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With so many budgeting apps and options available on the market, it can be hard to decide which tool will work the best for your personal financial situation. One of the newest options that just came out last spring is EveryDollar.

EveryDollar is the budgeting app created by personal finance guru Dave Ramsey. No matter if you agree with all of Mr. Ramsey’s financial advice or not, his “Total Money Makeover” program has helped scores of families get out of debt and gain control of their money.

“I’ve been using the EveryDollar budgeting app for about 6 months now and I initially found out about it by listening to Dave Ramsey’s podcast,” said Allison Haffner, a money conscious millennial from Colby, Kansas. “If I hadn’t heard about it on his show, I probably wouldn’t have started using it.”

EveryDollar is a budgeting app that can be used on your computer or your smartphone. There are two versions of the program – one is free and the other is a paid option that offers more features for it’s users.

How it Works

EveryDollarThe first step to using EveryDollar is going to the EveryDollar website to create an account and set up your zero-based budget. This process should be quick and easy. The website claims that you can create a budget in ten minutes or less, and it’s probably true if you don’t have a complicated budget.

The EveryDollar website creates eight different spending categories that cover the basics of most peoples’ budgets, but you also have the option to create custom categories for your budget if needed.

In addition to creating spending categories, you can also create and set up “funds” which is their term for different savings accounts, like an emergency fund, a vehicle maintenance fund, and more.

After you’ve finished the initial set-up of your budget and financial goals on the website, you can easily maintain your budget by updating it with your day-to-day expenses and purchases with the app.

As you add your expenses to your budget in EveryDollar, it will help you ensure whether or not your spending is in line with your planned budget by showing you graphs of your spending. This is a good reminder for you to make adjustments to your spending as needed throughout the month.

Pros of EveryDollar

Track in real time: Because EveryDollar is a budgeting app that’s available on your iPhone, it’s easy to put in your spending in real time throughout the day. This gives you plenty of reminders to make sure you are staying on track with your goals.

Split transactions: Another feature that’s great is the ability to “split” transactions when you put them in with your iPhone. For instance, your next trip to the grocery store might include more than just food for your family. If this is the case, you can easily split up the transaction to reflect the money you spent on pet food or other items besides just groceries.

Utilize Dave Ramsey’s Method for current followers: EveryDollar also helps you set financial goals and follow Dave Ramsey’s famous “Baby Steps” with a special tool just for those seven steps of your financial journey.

Sync with your bank accounts: In addition to the basic version of EveryDollar, there is a premium version called EveryDollar Plus that can be connected with your bank account to pull in your transactions automatically. This process occurs overnight and then you’ll have to categorize your expenses with a drag and drop system. You can connect multiple bank accounts and major credit cards to your EveryDollar Plus account, which makes it easy to track all of your spending.

EveryDollar makes it easy to keep track of your budget and have confidence that the information is correct because it does sync across multiple devices. This is a great feature for married couples that will both be accessing their budget on different iPhones or computers.

Cons of EveryDollar

Only iOS enabled: Unfortunately, the EveryDollar budgeting app is only available for iPhone users in the AppStore. Although it is not available for Android users at this time, you can still use the program on your computer. But this option may require you to keep better track of your spending as you are out and about so you can input it into your budget later when you get home and have access to your computer.

Can only sync to bank accounts if you pay: another downside of EveryDollar’s free version is that it can’t be connected to your bank account to automatically pull in your transactions every night as they hit your account. If you don’t want to pay for EveryDollar Plus, you will have to input all of your expenses manually. Although if you’ve been using a handwritten budget or even a spreadsheet of your own making, you’ve likely been doing this anyway.

Takes awhile to adapt: Haffner said the biggest downside she experienced with the EveryDollar app was that it took a little getting used to before she could easily use it for all of her budgeting needs.

“It did take me a little while to learn how to use the app to track my spending. I kept using my old spreadsheet alongside the app for a while until I got the hang of it,” she said.

Misnamed transactions: Another thing to watch out for if you decide to try EveryDollar Plus is the translation of merchant names on your transactions. When the app pulls in the transactions from your bank account or credit card, it converts the merchant names from an abbreviated version to the longer version to make it easier for you to drag and drop your expenses into categories. However, the translations are sometimes incorrect.

EveryDollar Plus Costs

EveryDollar Plus is offered for free for 15 days so you can try it out and see if it will work for your financial needs. During this trial period you will have access to all of the premium features, the most popular of which seems to be the automation between the app and your bank account. After the trial period, the cost for the premium version of the app is $99 per year. However, even if you decide to stick with the free version, the EveryDollar budgeting app offers a lot of features and benefits.

How Does EveryDollar Stack Up?

As mentioned, there are lots of options for budgeting apps. In fact, we even put together a list of the 10 best budgeting apps available.

MintMint is one the most popular budgeting apps because it’s 100% free for users. It also offers free transaction syncing between your bank account the app to help you keep track of your expenses. This is a feature you’d have to pay for with EveryDollar Plus. But budgeting with EveryDollar is actually faster and more user-friendly than Mint. Some of the “helpful hints” on Mint are actually ads, and users have been reporting more problems with Mint’s account syncing feature over the past year.

Screen Shot 2016-03-02 at 11.44.03 AMAnother popular budgeting app is You Need a Budget, or YNAB. This app is actually quite different from Mint and EveryDollar because it focuses more on budgeting into the future instead of analyzing the past and present. The YNAB program is based on living off last month’s income, encouraging you not to spend the income you’ve earned until 30 days later once you’ve built up a savings buffer. YNAB is $50 per year and if you are a data lover, this may not be the best option for you, as it doesn’t provide much in the way of analysis and trend data for your spending.

Who Will Benefit Most

Overall, EveryDollar has a very user-friendly interface that should make it easy for budgeting beginners to get the hang of creating and sticking to their first zero based budget. It’s also a good option to consider if you are on-the-go and want to refer back to your budget before making a purchase that could make or break your category for the month.

EveryDollar is a budgeting app that will likely be very popular due to it’s association with popular personal finance guru, Dave Ramsey.

That said, it might be hard to convince people to switch to EveryDollar since there are other budgeting apps, like Mint, that allow users to connect their bank accounts and sync transactions for free.

The post EveryDollar and EveryDollar Plus: a Budgeting App to Keep You On Track appeared first on MagnifyMoney.

3 Things to Know about Vesting for Retirement Funds

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When you first signed up for a 401(k) or 403(b), you may have read something about when you’re “fully vested.” At the time, it’s likely you could’ve overlooked this term because you were overwhelmed with all the other financial jargon and having to pick out investments. But it’s important you understand vesting and how it impacts your retirement account.

Vesting is a term used in the financial industry to describe to what extent employees own the retirement funds contributed to by employers.

If your employer does not contribute, then you do not need to worry about vesting because your account only contains your contributions, which are always vested. If there is no employer match at your company, then you can just contribute to other retirement vehicles.

What is retirement vesting?

In retirement, “vesting” refers to when you own your retirement funds outright. You are always 100% vested in your own contributions. However, employers can choose different vesting schedules that encourage employee retention and don’t vest right away.

For example, if you contribute $5,000 to a retirement plan this year, you will be 100% vested, meaning you own the funds and if you leave the company, you still own the $5,000. If you contribute $5,000 to a retirement plan and your employer contributes a 5% match annually that vests on a schedule (not immediately), then you will only own the funds outright that are fully vested. This means that if you leave the company, you only get to take the amount of funds with you that are fully vested. You will forfeit any remaining contributions that are not fully vested when you leave the company.

Types of Vesting

There are three common ways your employer contributions will be vested: immediate, graded or cliff.

Immediate Vesting

Employer funds are matched either immediately or over time. When they are matched and vest immediately, you are 100% vested and vesting really isn’t an issue. This is considered immediate vesting. Remember that any funds you contribute are always 100% vested. It is only employer contributions that can vest on a schedule.

When vesting occurs on a schedule, you don’t own the funds until they vest, which means that if you leave the company, you leave your funds behind.

Graded Vesting

Graded vesting means that you own your employer matched contributions in a percentage over time. For example, you may be 0% invested in year one, 20% invested in year two, and so on until year six when you are 100% invested. This means that if you leave the company in year three, you only get to keep the match that is vested, which would be 40% of employer contributions. This type of vesting is meant to encourage employee retention by rewarding you if you stay with the company.

Cliff Vesting

Cliff vesting means that you own 100% of your retirement funds at some point in the future (compared to graded vesting that occurs partially over time). With cliff vesting, you may be awarded an employer match right away and not be vested until being there for three years. You may earn the funds in year one, but not have access to them until year three.

Determining how your retirement plan vests

You can find out how your retirement plan vests in a few different ways. For starters, you can contact your human resources department or office manger and they should be able to tell you.

You can also call the company that has custody of your account and ask. For example, if your retirement account is held by Fidelity, you can call Fidelity and ask a representative how your accounts vests. This information should also be available in your account dashboard.

A final way to get this information is in the Summary Plan Description that you should receive from your employer for your retirement plan.

With many different ways to find this information out, it should not be difficult and should be widely known in the company how vesting occurs in the retirement plan.

What happens when you leave your company?

If you leave your company before the employer contributions in your retirement account are fully vested and return to the company later, you may be able to count your prior years of service for vesting purposes. The rules are detailed, so always read your retirement account documents with respect to vesting.

When you leave your company, the retirement funds will typically be allowed to stay in that fund with your former employer (but not always). This is something you should find out about your specific plan. Alternatively, you can roll over your employer sponsored retirement plan into a personal IRA (investment retirement account/arrangement) or into your new employer’s plan. Both of these options, when done correctly, should avoid taxes and penalties.

With respect to vesting, when you leave your company, you will not be able to take any funds with you that have been granted but are not vested. If you leave after three years and your employer match does not fully vest for six years, then you can only take with you the amount that is fully vested (e.g. 40% of your employer match after three years). Employer contributions that vest on a schedule encourage employee retention and for this reason it rewards people who stay and punishes people who leave.

Don’t miss out on an employer match

The most important points to remember with respect to vesting are: 1) your retirement contributions are always 100% vested; 2) employer contributions may vest immediately, on a graded schedule, or on a cliff schedule; 3) if you leave your firm before your employer match is fully vested, you will leave money on the table; and 4) vesting is different at each company so make sure you find out how your specific plan works.

If you haven’t set up a 401(k) at all, but you know that you get an employer match, then be sure to set up an appointment with HR to start saving for your future self even if you are struggling with student loans.

The post 3 Things to Know about Vesting for Retirement Funds appeared first on MagnifyMoney.

Review: Capital One 360 Savings

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Online savings accounts leave traditional banks in the dust when it comes to paying out interest. Your neighborhood bank probably offers less than 0.10% APY while holding your cash. In comparison, an online savings account like Capital One 360 Savings gives you 0.75% APY. Why earn minimal interest if there’s an opportunity to make more? Here’s all you need to know about 360 Savings.

The Capital One 360 Savings Account Overview

The 360 Savings account has no monthly fee. There’s also no minimum deposit required to open an account. The account is FDIC insured, so you won’t have to worry about money disappearing if something happens to Capital One 360. The insurance covers your funds up to $250,000, like any other traditional bank.

To manage your funds, Capital One 360 offers 24/7 online and mobile account access. If you want to speak with a live agent, you can connect with them by phone 7 days a week from 8 a.m. to 8 p.m.

Local Capital One branches can handle certain 360 Savings services like disputing transactions, changing contact information or printing tax statements.

Depositing Funds into Capital One 360 Savings

There are five ways to deposit money into your 360 Savings account. You can deposit checks using remote deposit, meaning you take a photo of your check and then upload it to your account using a computer or the mobile app. You can also set up direct deposit into the account if you want to put part of your salary into savings. Capital One 360 accepts physical checks if you mail them in. Your last two options are transferring funds into 360 Savings from another account using the online account management or over the phone.

Funds deposited are held for 5 business days. For verification reasons, your very first deposit will be held for 10 business days.

Withdrawing Funds from Capital One 360 Savings

The fastest way to withdraw money from your 360 Savings account is by transferring it to a connected 360 Checking account. When you do an internal transfer, the money clears instantaneously. Since 360 Checking accounts come with a debit card, you can head to an ATM after making a transfer to withdraw cash right away.

If you have a checking account with another bank or a regular Capital One account, you can still get access to your money pretty quickly. Online or over-the-phone transfers clear in 2 business days.

Like any other savings account, 360 Savings limits you to 6 withdrawals per statement period because of federal law. If you go over 6 withdrawals in a month multiple times, you risk having your account shut down.

Fees and Gotchas

The 360 Savings account is light on fees. Capital One 360 considers a lack of fine print one of its major selling points. The only two fees noted in the account disclosure are for wire transfers and statement copies. If you request a wire transfer (and it’s approved), you may be charged a $40 fee. If you need duplicate copies of your statement, you may be charged a $5 fee per statement.

Pros and Cons

Pros

The 360 Savings account has high interest and no fine print – both great benefits. Capital One 360 doesn’t nickel-and-dime you, which is another plus. There’s no minimum balance to open a 360 Savings account, or a 360 Checking account, for that matter. You can easily open two 360 accounts (savings and checking) to take advantage of quick internal transfers.

Cons

As for the negatives, the APY on the 360 Savings account isn’t the highest available in the competitive world of online savings accounts. But what the 360 Savings account lacks in interest, it makes up for in the convenience of managing your money.

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Alternatives to the Capital One 360 Savings Account

GE Capital Online Savings has no monthly fees or minimum balance requirement. The maximum deposit amount is $1,000,000. Interest is 1.05% APY and compounded daily. For deposits, you can mail a check, sign up for direct deposit or transfer money in from other accounts. To withdraw funds, you can make electronic or wire transfers to external accounts.

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The Barclays Online Savings Account offers 1.00% APY with no minimum deposit necessary to open the account. However, you need to keep at least $1 in the account to keep it open. There are no maintenance fees. You can deposit money to the account with mobile check deposit or set up direct deposit from your employer. You can also mail in checks. Withdrawing from your Barclays account to an external account can take 2 to 3 business days.

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Who Will Benefit the Most from the 360 Savings Account

The convenience of withdrawing money quickly and the lack of fees are key benefits of the 360 Savings account. You can get higher interest elsewhere, but this account is still a good choice if you want to be able to tap into your savings quickly.

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