Many money savvy young professionals utilize retirement accounts to invest money and minimize their yearly tax bill. While doing so is great for wealth creation, many people are unsure of what to do when they change jobs. Maybe you’ve wondered the same thing? Perhaps you’ve contributed 5-10% of your salary to your work retirement plan and now find yourself in the transition period about to work for a new employer. While you are excited about the new job, maybe you wonder what to do with the retirement account you had at your old job. Here are 5 options to consider:
Option 1: Leave it where it is. If you like the retirement plan options at your old job and the fees are low just let the money stay there and continue to grow. Unless your old employer demands that you move it, you can likely just the money you contributed in that same account. Although you can’t continue to contribute to that particular work-sponsored account if you no longer work there, you can let the money you already invested keep building over time. You can start withdrawing the money from that account at age 59.5 without incurring any early withdraw penalties but you must start withdrawing it by age 72. If you like the investment options offered by your employer, such as standard low-cost index mutual funds, then keeping the money where it is may be a good option.
Option 2: Roll it into your new job’s retirement plan. This may be a good option if you’re not particularly thrilled with the 401K options at your old employer and like the retirement plan investment options at your new job better. It may also be a good idea if you don’t want to keep track of multiple different 401Ks (or 403b’s) and would prefer to have them all at the same place. If you want to rollover the money into your new job’s retirement plan you simply contact the custodian or manager of the 401K (or 403b) plans at your old job and let them know you want to rollover the funds into the 401K (or 403b) at your new job. This a direct transfer. All you have to do is fill out some paperwork. (Some jobs may make you wait until you’ve been at the new job for a certain length of time before they let you do the rollover so contact your new job and ask). Since the money is going from one pre-tax retirement plan (at your old job) to another pre-tax retirement plan (at your new job) you won’t owe any taxes. You are simply combining 2 accounts into one. If you don’t want to do a direct transfer, you can also have the person in charge of your job’s 401K write you a check for the money and you can then deposit that check into your new job’s 401K yourself. (By law, you must make the deposit within 60 days.)
Option 3: Put the money in a traditional IRA. With this option, you call a brokerage firm like Fidelity, Vanguard, etc and let them know you want to open an individual retirement account (I.R.A) or tell them that you want to roll money from your old job’s retirement plan into your existing IRA. Putting the money into a traditional IRA may be an option for people who may not have good retirement plan options at their new job or want a bit more control over their investment plan options. The biggest advantage of opening an IRA this is that you now will have control of your retirement account and it won’t be controlled by your employer. With this control you can invest in whatever you want, whether that’s individual stocks or various mutual funds you find appealing. You also do not have pay any extra money in taxes when you transfer the funds. Through a self-directed IRA, which is a traditional IRA that you have control over, you can even invest in things like real estate, art, business partnerships, and precious metals. The downside of putting the money in a traditional IRA is that you will now be excluded from using the backdoor Roth IRA method which allows high income earners to put money into Roth IRA accounts each year.
Option 4: Convert it to a Roth IRA. Choosing to convert your work 401K (or 403b) into a Roth IRA is different from putting the money into a traditional IRA. Unlike a traditional IRA, which you contribute to with pre-tax dollars, you contribute to a Roth IRA with post-tax dollars. In other words, you contribute to a Roth IRA after taxes have already been taken out of your check and you never have to pay taxes on that money again. Why does this matter? Because with a Roth IRA you can invest in a way that allows your money to make even more money over time and you never have to pay taxes on the profits. Plus, you can take your contributions out of the Roth IRA at any time without any penalties which means it can serve as an extra emergency fund. In order to convert the money in your 401K (where you made contributions with pre-tax dollars) into a Roth IRA (which you contribute to with post tax dollars), you have to pay taxes on that money. For example, if you have $10,000 in your work 401K, and your marginal tax rate is 25%, then converting your 401K to a Roth IRA will increase the amount of taxes you owe by $10,000 x .25 = $2,500. This may seem like a lot of money now, but when you take the money out in retirement you may be paying an even higher amount in taxes since the overall amount in the amount will have grown over time. Before you decide what to do, see how much money you have in your 401K and calculate the taxes you’d have to pay if you converted it to a Roth IRA. If you can handle the increase in taxes, then converting it to a Roth IRA may be worth it.
Option 5: Cash it out. Technically speaking, you can cash out your 401K at your old job and have them write you a check for you to spend on whatever you want. This may be something to consider if you need the money to buy a home, pay off debt, or use for some other reason. While it may be nice to get an influx of cash, understand that the amount you get may be much less than you think. Since you did not have to pay taxes on money that went into the 401K, if you decide to cash it out, you will have to pay taxes on that money. Plus, if you are under age 55, you will also incur a 10% early withdrawal penalty. For example, if you have $15,000 in your work 401K and you want to cash it out, realize you will not get a $15,000 check. If your marginal tax rate is say 22% and you are under age 55, then you will only get a check for around $10,000 (only 2/3 of the money you had in the account) once you account for taxes and the early withdrawal penalty.
My point? You have 5 options of what to do with your 401K (or 403b) when you change jobs. In order to avoid paying a lot in taxes, some people tend to leave the money where it is or roll it into their new job’s 401K. If they can afford the taxes, then they may try to convert it to a Roth IRA to save themselves money in taxes later in life. Other options are to put it into a traditional IRA or cash it out. The choice is yours.
5 Ways to Increase Your Net Worth
As a young professional who is trying to become financially stable and build wealth, there are a few things you can do to increase our net worth even sooner.
1. Contribute to employer sponsored retirement accounts. Allocating a certain percentage of your income (like 5-10%) to your work 401K or 403b allows you invest money each month. Investing in this consistent way will help you increase your net worth over time. Contributing to your work retirement plan may also help you get even more money to invest with especially if your employer offers a retirement match (in which they put extra free money into your investment accounts on top of what you already put in there). Since the contributions you make are pre-tax, investing money in your work retirement plan decreases your taxable income which can lower your taxes each year and decrease your student loan payments.
2. Open a Roth IRA. Contributing to a Roth IRA also allows you to invest money for retirement. Some of the perks of a Roth IRA are that you have more options in what you want to invest in, whether that’s stocks and bonds, real estate, or other alternative investments. You can also choose to invest at any time since contributing money to a Roth IRA does not have to be associated with the paycheck you get from your job. One of the best things about a Roth IRA is that your money grows tax free (so you never have to pay taxes on the profits you make). Plus, you can take the money you contributed out of the account at any time, if you needed it for an emergency.
3. Pay down your debt. Your net worth is the income you make and assets you own minus any debt you owe or liabilities you have. By lowering your debt, or paying it off completely, you automatically increase your net worth. If you happen to have high-interest debt, like a credit card or car loan, considering paying it off as soon as possible. Doing so will increase your net worth and leave more money in your pocket each month.
4. Reduce your largest expenses. Another way to increase your net worth is to decrease some of your monthly expenses. While some people focus on saving a few bucks each week on coffee, you can instead get a bigger boost in your net worth by lowering your largest expenses, like housing. Whether you rent an apartment or pay a mortgage on a home, there’s a good chance a large chunk of your income is spent on housing. One of the best ways to lower your monthly expenses and increase the amount of money you invest each month is to decrease your housing costs. Consider getting a roommate, renting out a section of your home, putting your place on AirBnB, or relocating to a cheaper area. Saving money on housing costs can have a drastic impact on how much money you have available to invest each month.
5. Set up automatic savings and withdrawals. Another way to build your net worth faster is to set up automatic payments for any credit cards, student loans, or car payments you owe. Doing so will ensure that you make these payments on time and will even give you the option of paying more than the minimum each month (automatically) which can help you pay off any debt you have sooner. You should also consider automatic savings. Having automatic withdraws of money from your checking account to your savings account can help ensure you are saving a certain amount each month which will help you stack more money overtime.
5 of My Best Financial Decisions
As a young professional, I'm finally feeling as though my finances are on track. Although I've done several things to put myself in a decent position, there are 5 things that have helped me get on the right track and may help you as well. They are:
1. Learning about money. Many young professionals were not taught the basics of personal finance and investing in school. I myself had to seek out this knowledge and even when I did, I still had questions I had to ask other people. Despite the effort I put in, taking the time to learn about money management was one of the best decisions I ever made. Once I learned the basics, I was able to quickly get out of credit card debt. Doing so, saved me hundreds of dollars in interest payments and allowed me to start investing for retirement much sooner than I would have otherwise. The decision to aggressively pay down debt and increase my investments has allowed me to become more financially stable and create the foundation needed to build wealth.
2. Picking a career that pays a high salary. Not every job pays the same, but choosing a career that compensates well has done wonders for my finances. Instead of worrying about whether or not I can pay my bills on time, I can now focus on increasing my investments. Although one shouldn’t pick a job solely for the compensation, if there are multiple jobs you like equally choosing the one that pays more can have a positive effect on your finances.
3. Buying a slightly used car instead of financing or leasing a new one. When I was a medical student, I chose to buy a slightly used reliable car instead of buying or leasing a new one. When I became a resident physician, I again chose to buy a slightly used car instead of buying or leasing a new one. This decision saved me thousands of dollars both time. Instead of having a monthly car payment of $400-600, I use that money to invest in my Roth IRA and save money for future vacations and travel.
4. Living with a roommate for most of my twenties. This decision was hard to make at first. I was in my late twenties and really valued my own personal space. However, living with a roommate gave me the ability to live in a really nice place while still saving and investing a good chunk of my income. I had to prioritize my desires. Would I rather have the place all to myself or share a place for a few years and stack money I could use to pay down debt, invest, and save for fun trips? For me, living with a roommate was worth the sacrifice. As I enter my 30s I’ll likely get my own place, but choosing to live with a roommate in my twenties helped advance my finances in ways I can’t begin to articulate.
5. Investing early into retirement accounts. One of the ways many people build wealth and become financially independent is by investing money. One of the main ways they invest money is by utilizing retirement accounts (like their job’s 401K or opening up their own Roth IRA). By utilizing retirement accounts I am able to invest money in a tax efficient, passive way and build money over time. A big advantage to starting early in my twenties instead of waiting until I was in my 30s was that I gave the money more time to grow. The earlier I invest, the more time my money has to let the magic of compound interest work, which allows my money to make even more money overtime. Plus, investing early into retirement accounts taught me how to live below my means instead of inflating my lifestyle.
5 Changes to Enhance Your Life
1. Dedicate more time to your side businesses and passion projects. Take time to think about things you’d like to do or accomplish in your life. Perhaps you want to start a business, volunteer for an organization you love, or work on a passion project? Whatever it is, write it down and make a point to work on these goals periodically. One way to ensure that you are progressing is to brainstorm different times within certain days each week that you can dedicate to these goals. Make it a habit to work on the things you are passionate about on a regular basis.
2. Read more books, watch less tv. The most successful people have habits and character traits that are distinct from others. One of those traits is their intellectual curiosity and commitment to lifelong learning. One of the ways they do this is by reading books, listening to podcasts, and staying educated on a variety of topics. Unlike many typical Americans, most millionaires who were not born into wealth don’t spend as much time consuming entertainment. They don’t watch as much television as other people. Although they value relaxation, they are extremely selective about how they spend their days. Be mindful of how much time you spend consuming entertainment.
3. Spend less time on social media. Although social media can be a great way for us to check up on friends and give us a small glimpse into the lives of people we care out, there are downsides as well. One of the biggest drawbacks is that it can be quite addicting. Many people spend hours scrolling on social media each day without realizing it. Along with causing us to waste valuable time, social media can cause us to unnecessarily compare ourselves with others in ways that makes us less content with our own lives. In order to avoid feelings of discontentment and use your time more wisely consider cutting back on your social media use.
4. Get healthier – eat more nutritious food and exercise regularly. Many successful people value good health. They understand that sub-optimal health costs us extra money, since we have to pay for more frequent doctor’s visits and medicines to treat illnesses that could have been avoided. Bad health also costs us time. If you are healthier, you have more energy to get things done and can be more efficient with your time. You also tend to feel better in general. Consider eating healthier foods and exercising more regularly to improve your health and productivity.
5. Allocate more money to saving and investing. Part of being successful means practicing good money management. Instead of spending lots of money on frivolous things many successful people live below their means and allocate at least 20% of their money to saving and investing. You should consider doing the same thing. Make it a habit to save at least 5% of your income to build up an emergency fund. Consider allocating at least 10% of your income to retirement investing. You can use any remaining money to invest in taxable accounts, open college savings accounts for your children, or save money in a vacation fund for an upcoming trip. If you don’t do this already, make it a habit to save and invest a certain percentage of your income.
How I'm Investing The Money In My Retirement Account
I just started a new job and part of the orientation process involved setting up my retirement plan. Once I determined which retirement account was best for me and how much I wanted to contribute each month, I then had to choose how to invest the money in that account. When it comes to investing money for retirement, here are 3 general rules I follow:
1. Make sure it’s profitable. Retirement plans don’t just help us save money on taxes and stash cash for a later date. One of the biggest perks of retirement accounts, is the opportunity to invest the money and make a profit. When you contribute towards your 401K, 403b, or IRA, the money is simply sitting in an account. In order to make a profit on that money, you must actually invest that money. Most employer-sponsored retirement plans (401K, 403b, 457) give you the option to choose different “index funds” that invest in stocks, bonds, or a combination of the two. Bonds are a “safe” investment but the returns on your money (aka profits) are quite low and barely keep up with yearly inflation. In order to make your contributions profitable and increase the value of your retirement portfolio, you should invest in some percentage of stocks.
2. Make sure it’s diverse. When it comes to investing in stocks, I do not mean buying individual shares of Amazon or Netflix. Buying individual stocks carries enormous risk. Even a big company like Walmart can experience less profitable periods where their revenues don’t meet expectations, decreasing the price of their stock and the value of your investment. As lay persons with jobs, it can be difficult to predict which companies or industries will be the most profitable 5-10 years from now. Even if we stay informed on company news, there is no way we could outsmart the people on Wall Street who have the latest information right at their fingertips (and even those experts get it wrong 50% of the time!) The key to managing this risk, is to invest in many different companies in a variety of industries. Since we don’t have an endless amount of money, the most effective way to do this is to invest in index mutual funds. The total stock market index fund, for example, buys almost all of the public stocks in the country. That way if one industry experiences a downturn, your stock investments in all of the other industries will prevent you from losing too much money. Plus, being this diversified may allow you to make an even larger profit when small startups companies experience unexpected growth or turn into the next Facebook.
3. Make sure it’s safe. While we want our investments to be profitable, we must also ensure they are not too risky. People who had all of their retirement savings invested in stocks during the crash of 2008 lost a lot more money than those who had invested some of their money in bonds. A general rule of thumb is that your stock-to-bond allocation should be 100 minus your age. If you are 25 years old, you should have 75% of your money in stocks and 25% in bonds. If you are 45, you should 55% in stocks and 45% in bonds. Since people are living longer nowadays, some experts suggest using 110 or 120 minus your age instead. Regardless of which estimator you use, your ideal allocation of stocks to bonds, should be based on your comfort level. Take a look at the investment fund options available through your job or through various companies like Fidelity or Vanguard and pick a stock-to-bond portfolio allocation in which you are most comfortable.
WHAT AM I DOING? As a 28-year-old female who is new resident physician, I’m investing in Vanguard’s Target Retirement 2050 fund. This index mutual fund is a type of lifestyle investment fund that automatically adjusts the percentage of stocks and bonds as I age. Money in this fund is actually invested in 4 other index funds:
-53.5% in the “total stock market index” fund (which purchases stocks from nearly every public company in the US)
-36% in the “total international stock market index” fund (which purchases over 5,000 stocks from over 40 different countries around the world)
-7.5% in the “total bond market index” fund (which purchases a mix of over 8,000 corporate and government bonds offered in the US)
-3% in the “international bond market index” fund (which purchases thousands of bonds from developed countries and emerging markets around the world)
As you can see from the breakdown, the allocation starts off with about 90% in stocks and 10% bonds, since I’m young and plan to work in some capacity for another 30 years. However, it periodically decreases the percentage of stocks and increases the percentage of bonds as I age. This advantage of this changing allocation is that I have more risk and thus a bigger chance of higher profits when I’m young (since the majority of this fund is in stocks), but become less risky as I age (since the percentage of bonds will increase overtime). Another advantage of this fund is that it decreases the work on my behalf. Instead of investing in these 4 funds individually, investing in this Target Retirement lifestyle investment fund allows me to purchase this 1 fund, which then automatically has me invested in the 4 other funds.
As I get older and more experienced, I might choose to invest in different index mutual funds or open a Roth IRA to invest in other things like real estate, but as a busy resident who is just getting started with retirement investing, this is my fund of choice. Whether you choose to adopt my game-plan or come up with one of your own, remember the 3 rules to retirement investing: Keep it profitable, keep it diverse, keep it safe.
Tell me, are you saving money for retirement? If so, how do you plan to invest the money in your retirement account?
Retirement Account 101: Answers to questions you were afraid to ask
I’m a recently graduated medical student who is about to begin my new job as a resident physician. Along with creating a monthly budget, getting disability insurance, and making a plan for my student loans, I also need to start saving money for retirement. Several of my friends and co-workers wanted me to help them get their finances in order as well. Here are my answers to some of their most common questions about retirement accounts.
1. What are the different types of retirement accounts? Technically speaking, there are two main types of retirement accounts: Employer-sponsored plans and non-employer sponsored plans. Employer-sponsored plans are things like a 401K (offered by for-profit organizations), 403b (offered by non-profits), and a 457 (offered by government institutions). Non-employer sponsored plans are called Individual Retirement Accounts (aka IRAs). Through traditional IRAs or Roth IRAs, you can choose to save earned income for retirement in a way that is not dependent on your employer.
2. What is the difference between a Roth account and a regular retirement account? Many people have the option of contributing to “Roth” accounts like a Roth 403b or a Roth IRA. While Roth accounts may have different contribution rules, the main difference between Roth and non-Roth retirement accounts is the timing on when you pay taxes on the money. Roth accounts are considered “post-tax” because you contribute to them AFTER you’ve already paid taxes. Employer-sponsored accounts are considered “pre-tax” because you contribute to them BEFORE you pay taxes.
For example, with a Roth IRA you pay income taxes on money you make now, then you contribute to the account with “post-tax” dollars. Your money builds and accumulates interest over time. In retirement, you WILL NOT have to pay taxes on the money you withdraw or on any profits you made in the account. Non-roth accounts like a 401K are different. You contribute to these accounts with “pre-tax” dollars and your money builds and accumulates interest over time. In retirement, you WILL have to pay taxes on the money you withdraw and on any profits you made in the account.
3. Should you contribute to a Roth account? It depends. If you feel your salary is going to increase in the future, then consider paying taxes now (while you are in a lower tax bracket) and thus opt for a Roth account. In contrast, if you are already near your peak earnings or may experience a decrease in salary in the coming years (due to working part time or opting for a lower paying job with more lifestyle balance) then you may want to postpone paying taxes now and opt for the non-roth retirement account.
The goal is to pay taxes on the money when you are in the lowest tax bracket. The average person will want to do Roth retirement accounts (like a Roth IRA) when they are young and just starting out in their careers (unless they have other competing expenses that make them want to defer the taxes). As they earn a higher salary, they will want to do non-roth accounts (like their employer sponsored 401K, 403b or 457 plan) to avoid paying so much in taxes on those earnings.
4.How much should you contribute? It depends. You have to figure out how much money you need to retire and contribute enough money each year into retirement accounts to meet that goal. Of note, different types of accounts have different rules about how much money you can contribute each year. As of 2024, the max a single person can contribute to employer-sponsored plans like 401K, 403b, or 457 is $23,000 a year. The max you can contribute to traditional IRAs and Roth IRAs is $7,000 a year. (This amount can increase overtime due to inflation)
5. What happens to the money you put into these accounts? Once you put money into a retirement account, you can choose to invest that money in a way that will earn a profit. Employer-sponsored plans like 401Ks may offer a variety of options with different ways you can safely invest into the stock market, purchase bonds, or do a combination of both to earn a profit on your money. Non-employer sponsored plans like IRAs tend to be more flexible and can be used to invest in things like individual stocks, index mutual funds, commodities (like gold), or real estate. Regardless of the type of plan you choose, most people use the money in these accounts to invest in the stock market by purchasing index mutual funds. These are large, diversified funds that invest in hundreds of different stocks (or bonds) and earn a profit ranging from 7-10% each year.
6. What if you own your own business, do contract work, or earn money from a side gig? Once you set aside money for taxes, you can choose to save and invest that money for retirement. Depending on your income level, you may be able to put that money into a Roth IRA (provided you have not already contributed the yearly limit of $6,000). You may also choose to open a SEP-IRA or a solo 401K through a company like Vanguard, Fidelity, TD Ameritrade, etc. These accounts allow business owners and self-employed individuals to contribute up to 25% of their earned income (or $69,000, whichever is lower) into those accounts each year.
7. Are there any special caveats I should be aware of? Yes. Oftentimes employer-sponsored plans will “match” your retirement contribution by placing an identical amount of their money into your retirement account, alongside your original contribution, up to a certain percentage of your salary. This is basically “free” money given by your employer.
Of note, people with really high incomes (i.e. physicians) are phased out of a traditional Roth IRA when their income gets to a certain level. They can try to work around this rule (legally) by doing something called a “backdoor Roth IRA” which is explained here. Some high-income earners may also be able to contribute to a 403b plan in addition to a 457 plan, which allows them to save even more money for retirement.
To summarize, there are many different types of accounts that help you save and invest money for retirement. Determine which employer-sponsored plans you have at your job and compare to them to an IRA. Traditional and Roth IRAs tend to have lower contribution limits but offer more flexibility in the types of investments you can make. Employer-sponsored plans have higher contribution limits and may even offer a “match,” but may be limited in the types of investments you can make.
Tell me, was this helpful? Do you have a better understanding of the different types of retirement accounts?
