by Shelley Seagler
Saving is a critical part of your personal financial success. But how much, when, and where you save can also have an important and lasting effect. When you have multiple accounts, you may not be sure where to start, but answering a handful of questions will help you prioritize the order in which you should make contributions to the various accounts available to you.
1. How much can you save?
If you’ve been diligent about keeping personal financial statements, you should be able to accurately determine how much you can comfortably save and identify areas where you can cut back if you’d like to increase that amount. My recommendation is to be ambitious, but realistic. Choose an amount you know you can handle and then try to increase it by 3% to 5%. But saying you’re going to save more than you actually are able (or willing) to do is setting yourself up for failure.
When you calculating how much you can save, don’t forget to consider tax implications. Contributions to an employer- sponsored plan are made with pre-tax income, so the impact to your take-home pay may be less than you expect. Depending on your Modified Adjusted Gross Income (MAGI), you may also be eligible to receive a tax deduction for your IRA contribution.
After you calculate how much you can save, the next couple of questions will help you figure out where to save it.
2. Do you have an employer-sponsored retirement plan like a 401(k), 403(b), SIMPLE, or SEP?
NO – If your employer does not offer a qualified retirement plan, your first priority is to max out a tax-advantaged account like a Traditional or Roth IRA. If you’re married and filing jointly (MFJ) and your MAGI is greater than $179,000 or single and your MAGI greater than $122,000, you should make the maximum contribution to a Traditional IRA. If your MAGI is less than the amounts stated above, your contribution should go to a ROTH IRA. In either situation, any amount you save in excess of the IRA limits should go into a taxable investment account.
YES – If your employer offers a qualified retirement plan, your next step is to answer question #3.
3. Does your employer offer a match to your contributions?
NO – If your MAGI is less than $179,000 MFJ or $122,000 single, contribute as follows:
1. Contribute to your Roth IRA up to the limit.
2. Contribute to employer-sponsored plan up to the plan’s limit.
3. Anything you save in excess of the limits should go into a taxable investment account.
If your MAGI is greater than $179,000 MFJ or $122,000 single, contribute as follows:
1. Contribute to employer-sponsored plan up to the plan’s limit.
2. Contribute to your Traditional IRA up to the limit.
3. Anything you save in excess of the limits should go into a taxable investment account.
YES – If your employer offers a match, your first step is to take advantage of the “free money” available by contributing to your employer-sponsored plan. How much you should initially contribute is based on your MAGI. If your MAGI is less than $179,000 MFJ or $122,000 single, you should contribute in this order:
1. Contribute to employer-sponsored plan up to the employer match.
2. Contribute to your Roth IRA up to the limit.
3. Contribute up the remainder of the employer-sponsored plan’s limit.
4. Anything you save in excess of the limits should go into a taxable investment account.
If your MAGI is greater than $179,000 MFJ or $122,000 single, make your contributions as follows:
1. Contribute to employer-sponsored plan up to the plan’s limit.
2. Contribute to your Traditional IRA up to the limit.
3. Anything you save in excess of the limits should go into a taxable investment account.
If you’re not up-to-date on the maximum contribution for your accounts, you can find the 2012 limits here.
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