Roth v Traditional IRA

[mariogreymist]

I'm wondering if I understand the difference correctly - I could take mature deposits from the Roth before I am 59 1/2, but if I take anything other than a qualified expense from a traditional IRA before then, I pay income tax plus a penalty. Do I have that right?

I'm closing in on my reserve savings goal (3 months expenses) and I'll open a retirement account with subsequent savings. I just haven't decided which yet. I just turned 35, I will likely receive a high six-figure inheritance at some point between now and retirement,(assuming my mother doesn't develop a taste for craps) and I plan to buy a house next year. I want to split my excess income to pay down one high interest loan and build a nest egg, so I can retire before I'm too old to enjoy it.

Should I pay the loan (about 10k) off entirely before opening an IRA, & what kind of IRA should I open given my situation?

[RetireEarly]

I'm not sure what you mean by "mature deposits," but you can withdraw any portion of the Roth you invest (ie: no interest) without penalty. No income tax since you've already paid the tax, and I'm sure why Uncle Sam doesn't charge a penalty.

As for paying off the loan, what exactly is the interest rate? If you opened the IRA now, how long would it be until the loan was paid off?

[shizane101]

I personally feel debt outside of a car and home should be a priority before opening or contributing to a retirement account. I say that because the interest on most debts would outweigh any returns you'd get on a retirement account, thus negating the point of saving for your future

[jIM_Ohio]

You don't mention a few details.

1) interest rate on the 10k debt (5%, 10%, 20%)
2) Your current income level (are you eligible for deductable IRA and Roth IRA?)
3) Your current retirement savings
4) the cost of houses in your area and what you've saved for the down payment already.

[mariogreymist]

You don't mention a few details.

1) interest rate on the 10k debt (5%, 10%, 20%)
2) Your current income level (are you eligible for deductable IRA and Roth IRA?)
3) Your current retirement savings
4) the cost of houses in your area and what you've saved for the down payment already.

1 - 15.99
2 - I am eligible
3 - Essentially non-existant
4 - I have a couple thousand for closing costs, and I'll be looking in the area around 200k - well below market average here. (I'm single, plan to stay that way, and all I really need is a small condo)

[jIM_Ohio]

15.99/10k debt is something I would pay off. Is this credit card or similar consumer debt, a loan, or something else?

eligible for a deductable IRA?
eligible for a Roth IRA?

They are different- and have different eligibility rules for each. If eligible for a deductable IRA, I would consider that before paying down debt (tax deduction would certainly help). I would delay a Roth until after the debt is paid off.

Have you signed the contract for the house (condo)? I would delay closing until debt is cleared up.

I also would not factor inheritance into planning until you actually have the money.

The basic plan
1) spend less than you earn now
2) pay down the debt (can you set aside 10k and pay it off within 12 months?)
3a) start retirement savings
3b) start house savings
3c) build up emergency fund

I would also strongly consider using savings to pay down the debt.

What is the amount of savings? What is the minimum payment on the CC debt?

[mariogreymist]

If I understand the eligibility rules correctly, I am eligible for all IRA options. (my salary is mid 60's)
I do spend less than I earn. I am working on the emergency fund now and am close to having it. I am wary about using that money to pay down debt, as I learned just how important that fund is when I went through it this spring. The 10k is an installment loan for a vacation club. I do make extra payments on it, and i likely could pay it off within 8-12 months if I made it top priority. I ought to sit down and do the math. See where I'll be in ten years given the scenario where I pay the loan quickly and where I pay it at standard amortization.

And I'm not so much counting on the inheritance, but ignoring it seems questionable too. I mentioned it simply because there may be some savings options that I can arrange now that will make that kind of money go farther. If there is some kind of tax-sheltered account I can open with my income that would allow me to deposit an inheritance, but that cannot be opened with the inheritance itself, I'd want to know before it's too late to set up.

[jIM_Ohio]

I would pay down a 15% debt as priority. 8-12 months to pay it off and it makes sense to not use EF to pay it down... and delaying retirement saving 1 year won't set you back too far.

I would then open a deductable IRA if eligible- reducing taxes now should be the basic priority (defer taxes when possible).

[mariogreymist]

I would pay down a 15% debt as priority. 8-12 months to pay it off and it makes sense to not use EF to pay it down... and delaying retirement saving 1 year won't set you back too far.

I would then open a deductable IRA if eligible- reducing taxes now should be the basic priority (defer taxes when possible).

I just did the math - If I pay it off in 12 months, I am ahead on total savings in about 40 months from today. In other words, the gained cashflow of not paying 16% is overcome in only 28 months. You're absolutely right - paying that debt is a higher priority than retirement or down-payment savings.

[jIM_Ohio]

Use this paying down as a catalyst to not taking further loans out. I assume you have a budget set up (of monthly income and expenses)?

If normal payment is $200, and payment for 12 month payoff is $800, once the loan is paid off, use the $800 to launch savings plan.

$100/mo into house savings
$500/mo into IRA (I suggest deductable IRA)
$200/mo into taxable invesment account

If you are eligible for a 401k, then you would not be eligible for a deductable IRA (as in if you have a retirement plan option at work, you are not eligble for a deductable IRA). There may also be tax credits for using a deductable IRA if your income is low enough.

Take any raise and increase the house savings, for example.

[mariogreymist]

Use this paying down as a catalyst to not taking further loans out. I assume you have a budget set up (of monthly income and expenses)?

If normal payment is $200, and payment for 12 month payoff is $800, once the loan is paid off, use the $800 to launch savings plan.

$100/mo into house savings
$500/mo into IRA (I suggest deductable IRA)
$200/mo into taxable invesment account

If you are eligible for a 401k, then you would not be eligible for a deductable IRA (as in if you have a retirement plan option at work, you are not eligble for a deductable IRA). There may also be tax credits for using a deductable IRA if your income is low enough.

Take any raise and increase the house savings, for example.

I do have 401k, so I guess I should focus on that for retirement savings. I do see the real estate market slowdown lasting no more than 2 years, so I'll probably focus most of my savings on that, as a home is the second biggest purchase most people make in their lives. Might as well make the money spent go farther!

[jIM_Ohio]

I do have 401k, so I guess I should focus on that for retirement savings. I do see the real estate market slowdown lasting no more than 2 years, so I'll probably focus most of my savings on that, as a home is the second biggest purchase most people make in their lives. Might as well make the money spent go farther!

I wouldn't put a time table on having to buy a house. Most calculators will suggest that investing for retirement will yield a better return that real estate (real estate increases 3%/year on average, where as retirement savings can grow around 10% per year on average). I would set a goal of 1X salary saved for retirement prior to investing in a house. Moving and closing on a house are expensive... if you are thinking condo, that could probably wait, as the costs of them don't increase as much as normal real estate over time (in normal areas), and it's possible after 3-4 years in a condo you'll want a real house and moving twice in a short amount of time could set you back.

[mariogreymist]

I wouldn't put a time table on having to buy a house. Most calculators will suggest that investing for retirement will yield a better return that real estate (real estate increases 3%/year on average, where as retirement savings can grow around 10% per year on average). I would set a goal of 1X salary saved for retirement prior to investing in a house. Moving and closing on a house are expensive... if you are thinking condo, that could probably wait, as the costs of them don't increase as much as normal real estate over time (in normal areas), and it's possible after 3-4 years in a condo you'll want a real house and moving twice in a short amount of time could set you back.

Real estate does go through severe swings in value from time to time. There is a downswing currently, and buying while low is one of the two prime rules of investment. (selling high the other) The question is whether the PMI would make waiting more sensible. It certainly makes sense to let the downslide play out and only buy once values have already started some recovery.

Of course, I may be able to get an interest free loan for the down-payment from within the family which makes the market the only real consideration beyond moving costs and cashflow. Like inheritance though, it's not something I'll count on.

[disneysteve]

I would consider selling the timeshare, get whatever you can get for it, which likely won't be much, take the loss and move on. Financing a vacation at 16% wasn't a great move. Plus you have the ongoing annual fees. You can vacation just as cheaply, if not even more cheaply, on your own with internet specials, Skyauction, Ebay and other sites.

[mariogreymist]

I would consider selling the timeshare, get whatever you can get for it, which likely won't be much, take the loss and move on. Financing a vacation at 16% wasn't a great move. Plus you have the ongoing annual fees. You can vacation just as cheaply, if not even more cheaply, on your own with internet specials, Skyauction, Ebay and other sites.

Not if you do the math. If you consider the average price of a hotel room between now and the time I am too old to stop vacationing will be $100 (given my predisposition for reasonably nice hotels in big cities, a conservative number), and assuming I will spend ten nights a year in such hotels for the next 30 years, you have $30,000 in hotel expenses. The membership I have will get me the same number of nights in perpetuity. Even if I let the loan amortize completely, I will be ahead in the long run.