Retirement Savings, Part Three: Alternatives to Employer Plans

Retirement plansIn the final installment of my three-part series on retirement planning, I look at what to do if you are unemployed, self-employed, or otherwise unable to access a 401(k) or similar employer-offered retirement plan. (If you have an employer plan and are wondering how best to manage it, see part one. If you lost your job and are wondering what to do with your employer plan, see part two).

Here's advice from the experts on how to establish and maximize your personal retirement fund. Much of it is similar to the advice provided in part 1, which makes sense since in both cases the goal is the same -- to secure your financial future.

1. Start Saving as Soon as Possible: "Retirement in your early 20s can seem a long way off," admits Joseph Montanaro, a certified financial planner at USAA. "But that's the biggest advantage you have -- it is a long way off, meaning you have time on your side. If can think about it now, and leverage your time, that's a real advantage."

2. Consider When it Makes the Most Sense to Pay Taxes: In the same way that the 401(k) is the most common employer-offered retirement plan, the IRA is the most common individual retirement plan. And in the same way that there are two types of 401(k) plans, there are two types of IRAs; the deferred, where you pay the taxes at some later date, once you take the money out of the account, and the Roth, in which you pay the taxes today, before depositing the money into the account.

"The best practice is to save in a Roth when you're young and your income is low, and switch to deferred savings when you're older and your income is higher," explains David Wray, president of the nonprofit group Profit-Sharing/401(k) Council of America. When you're earning less money, you'll be in a lower tax bracket. As you progress and begin earning more, you'll eventually jump up into a higher bracket. Since you'll have to pay taxes on the money eventually, better to pay them now, while your rate is lower. Wray suggests switching from the Roth to deferred once you begin earning $40,000 a year, which is roughly the point at which your tax rate at the time of retirement will likely be less than your tax rate while working.

3. Know Your Options: Though an IRA is the most common non-employer retirement plan, it is by no means the only one. For example, small business owners and self-employed workers can establish a Simplified Employee Pension Plan. Self-employed workers whose business includes only themselves and their spouse are also eligible for a Solo 401(k), though "these are really limited in terms of availability," says Christopher Hickey, a financial adviser at Merrill Lynch (BAC). "Typically where we see those are with consultants. It's available in a Roth version."


4. Make Saving for Retirement a Habit: Like any other savings account, there are two components to managing your retirement funds. First, you have to commit to consistently saving the money. If you're able to set up a routine transfer from your checking account to your IRA, you don't have to remember to move the money yourself so you're that much more likely to stick with it.

5. Don't Be Afraid to Ask for Help: A key component to successfully managing your retirement account is to be thoughtful in how you invest. "If you're going to do a good job of investing [retirement funds], you have to have the time, the discipline and the knowledge to understand your investment choices and how you should allocate your funds between those choices," explains Catherine Golladay, vice president of 401(k) education and advice at Charles Schwab (SCHW). "And that's hard to do -- to have all three of those components."

If you can afford a financial adviser -- or have a friend or family member you trust to assist you -- consider getting help determining your investments. Alternatively, Golladay says you can consider a " target-date fund," a type of mutual fund that mixes stocks and bonds, and routinely resets its risk profile, depending on when you want to retire. "As you get closer to retirement, the fund moves on a glide path from a more aggressive portfolio -- more stocks -- to more conservative -- more bonds and cash .... So a target date [fund] is a good starting place" when more personalized advice is unavailable.

Don't break the bank6. Don't Use Your Retirement Account as an Emergency Fund: "Far too often, I see people tapping into their retirement fund when an emergency comes up," says Golladay. "It's very, very important that people resist the urge to tap into that money to use it as a short term fix." Otherwise, you won't have money available for retirement. It's that simple.

Golladay recommends that people create a separate, emergency fund to avoid the temptation to drain their retirement account. She also suggests that it be "liquid," meaning that if you invest your emergency fund money, put it in something that is easy to convert into cash, like a mutual fund. It can even be as simple as a savings account.

Wray echoes the need for an emergency fund. "You need two pools of savings -- one for the short term, that's the emergency fund, and another for the long-term, that's the retirement account. ... In the short term, certainly people should try to have at least three months' worth of income saved for emergencies." Some financial planners suggest squirreling away six months' income, if you're able.

7. You Can Double Down: If your situation changes and you find yourself eligible for an employer-offered retirement plan, you can -- and should -- enroll, even if you have your own individual plan as well. "You can have both an IRA and a 401(k)," explains Montanaro. "In a lot of cases, we really encourage folks to have that. ...You get your pretax plan through work to reduce your income taxes today, and then combine that with the benefits of a tax-free investment vehicle like the Roth IRA so can get tax-free funds later."

8. Identify Your Long-Term Goal: According to Wray, the amount of annual income you want to plan to live off of in retirement -- called the "replacement ratio" -- is 80%. In other words, if you are earning $50,000 at the time of retirement, you want to plan to retire on $40,000 a year in order to maintain your current standard of living. Roughly 50% of that $40,000 will be provided by Social Security, but you're on the hook for the rest. "So if you get $20,000 from Social Security and $20,000 from your own plan, you're in good shape. Usually, for most people, when you stop working, certain expenses fall away, so you can live on a little less."
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Loren Berlin is a columnist at DailyFinance.com. She can be reached at loren.berlin@teamaol.com. You can follow her on Twitter @LorenBerlin, and become a fan on Facebook.

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rolando4rocks

GET A HOME & GET IT PAID FOR by the time you retire;this alone is the BEST thing you can ever do.You DO NOT want to be at the mercy of landlords.Find a COLLECTABLE HOBBY that you enjoy and you can make $$ at.This can be BETTER than ANY 401k/IRA if you do it right.My investments "Weathered" all the financial SETBACKS the last 35 years,and continue to do well unlike the UNPREDICTABLE stock market.Sure,there's NO GUARANTEE about anything,and you don't know if you are even going to make it there (Even more reason to NEVER put eveything into one basket,and to enjoy life as it comes),however a great collectable can be enjoyed as it appreciates,and the $$ spent actually HELPS THE ECONOMY also along the way.....think about this.

July 06 2011 at 4:16 AM Report abuse rate up rate down Reply
savemycountry911

.............or reelect the Socialist and let the taxpayers support you.

July 05 2011 at 9:15 PM Report abuse -1 rate up rate down Reply
1 reply to savemycountry911's comment
bushsnitemare2

ARE YOU HAVING A PARANOID SOCIALIST PHOBIA AGAIN? TIME FOR YOUR MEDS WHACK JOB..........

July 05 2011 at 10:49 PM Report abuse +1 rate up rate down Reply
gardinerda

At least five years prior to your planned retirement, start living on the amount you plan to HAVE when you retire. THEN you will know if you SHOULD plan to retire, and also build a bit of an emergency fund for your retirement years, or add to your retirement account. Either way, you will adjust your income status before you leave your job, and seamlessly adjust to a new standard of living.

July 05 2011 at 9:24 AM Report abuse rate up rate down Reply
alexanderpenn

Saving for retirement saving for retirement.

We are in competition with workers making 20 cents an hour in China. We have 15 to 20 million cheap labor workers walk into the country driving down prices. We have visa programs for high paying jobs when they are not needed. The public worker is under attack by the corporate media,Workers are likely to have many job changes. If you lose a job you may lose your house. 50,000 a year in some parts of the country mean you can not own a house. You will not pay for children’s college. If you have a child you will not have disposable income. So I will rewrite the article.
On 50,000 a year if you remain single and do not have a girlfriend and do not own a house you may have enough to put into a 401k? Your account will likely be trashed at least twice in thirty years. If you have 60,000 a very successful 401k better than average you can take 20,000 out for possible more than 3 years if the stocks cooperate. If you get married or have children or a home don’t bother reading this article if you make 50,000 a year.

July 04 2011 at 10:45 PM Report abuse rate up rate down Reply
snsndse

This is so crazy, my husband spent 20 years in the Navy, retired, went to work for Univercity Of CA Retired by the time he was 58. If this sweet chick had not gotten in the way we would have had $60,000 a year to live on, we now share the retirement and it is hard, but we manage. I know my daughter in law had a 401K account and she lost so much when the stock market went south, so I do not believe in that at all. I worry, but what can I do, I am 76 years old and own nothing except a mortgage after all my years of constant work...You can not plan on anything.

July 04 2011 at 9:05 PM Report abuse rate up rate down Reply
RICH

Even if you have a generous contribution into your employer's tax qualified plan, a personal retirement savings is still important so you don't get stuck with excess/ premature distribution penalties if you need a big chunk when you are retired.. You also have the option of cutting back on taxable pension plan withdrawls to slide into a lower tax bracket and still maintain your lifestyle.

July 03 2011 at 9:30 PM Report abuse rate up rate down Reply
alucky1128f8@aol

OBAMA, SUCKS VOTE HIM OUT IN 2012 ALONG WITH THE LABERAL SENATE !!!!!!!.

July 02 2011 at 11:02 PM Report abuse +1 rate up rate down Reply
2 replies to alucky1128f8@aol's comment
vcgh2000

and people like you are the alternative.....were doomed!!!!

July 03 2011 at 8:36 AM Report abuse rate up rate down Reply
bushsnitemare2

MY WHAT BIG DREAMS YOU HAVE, FOR A LITTLE PIN HEAD.............LABERAL?

July 03 2011 at 9:17 AM Report abuse +3 rate up rate down Reply
myplenny

Move to Cuba its safe, great climate, free medical care. Soon as Castro bites the dust they will build reitremnent places for ''los hombres del nortre''.

July 02 2011 at 8:22 PM Report abuse +1 rate up rate down Reply
1 reply to myplenny's comment
savemycountry911

No thanks, I'm not Socialist/Communist . I'll wait for it to come to us.

July 02 2011 at 8:51 PM Report abuse rate up rate down Reply
myplenny

Never ust these money managers. It just legal thievery by people tp lazy to work. Kinda like politicians.

July 02 2011 at 8:19 PM Report abuse rate up rate down Reply
Lawrence G

the government will always screw you. they just want you to work so you can pay your taxes. stay home do not go far, spend your money here. do not ask for nothing, learn to say yes man and no man. a person will not able to afford anything. do what i'm going to do, move to Ecuador. the rent is 800 dollars, includes, rent, food, light, water, gas,a maid twice a week, spending money, cab and bus money, the weather is spring like, the people are great and they are lots of usa people living there. so, it's up to you, go for a visit and see for your self. you will like it !! take care and make a stand. thank you for your time, LG

July 02 2011 at 7:11 PM Report abuse +1 rate up rate down Reply