In baby step 3, of Dave Ramsey’s seven step plan in the “The Total Money Makeover“, Ramsey advises that you complete your emergency savings account. Once you have established and completed this, you are ready to direct your money towards investing for retirement.
Suggestions and Recommendations
By this point in the Total Money Makeover, you have probably developed some pretty good habits with respect to saving money. Therefore, investing will be easier and be viewed with more specific goals in mind. Now, with all of your debts paid off, you will have a lot more disposable income that can be used to fund your retirement investing. For baby step 4, Ramsey prescribes that you set aside 15% of the money you earn and put part of it into good growth stock mutual funds. He suggests that you diversify your investments among a variety of funds. Ramsey goes on to recommend that you direct your retirement money, first and foremost, in any retirement vehicle that has an employer match such as a 401-k and then place the remaining 15% in a Roth IRA and other selected investments.
Benefits of a Roth IRA
Obviously, it is easy to understand why Dave Ramsey indicates investing part of your retirement money into a Roth IRA. Roth IRAs have a number of distinct advantages:
- Contributions are made with after-tax dollars. Therefore, you do not have to worry about taxs when you withdraw money from a Roth IRA account as long as you have held the account for 5 years or more and are 59 ½ when the withdrawals are made.
- Unlike a regular Traditional IRA, which requires you take distributions at 70 ½ years old, a Roth IRA does not include this feature. You can make distribution at your discretion, there is no age limit, and you can bequeath a Roth IRA to heirs.
- Typically, if your modified adjusted gross earnings are under $110,000 annually, you can open a Roth IRA account. You can contribute any earned income, such as salaries, wages, and self-employment income up to $5,000 per year if you are 50 years-old or younger ($6,000 limit if older than 50). However, you cannot fund a Roth account with passive income, such as interest, rental income or dividends.
- In the majority of cases, you can use the funds from a traditional IRA and roll them over into a Roth IRA account. Just remember, if you do so, you will have to pay taxes on the rolled over amount.
Diversification and the Roth IRA
There are many options to investing for retirement that provide you with great diversification opportunities. A Roth IRA is an excellent way to save for retirement. With such an account, you can buy any investment of your choosing in a self-directed IRA, such as:
- Mutual Funds
The contribution limit for a Roth IRA for 2010 is $5,000. If you’re over the age of 50, you are able to contribute an additional $1,000 as a catch-up contribution. This option is provided for any investor who is nearing retirement age assuming that you are within the income limits. Joint filers can participate in Roth IRA investments if they have an earned income up to $166,000 to qualify for a full contribution. Those couples who have an income of $166,000-$176,000 are eligible to make a partial contribution. If you earn over $176,000 as a couple or $120,000 as a single filer, you are not eligible to participate in a Roth IRA.
Dave Ramsey’s seven step plan in the Total Money Makeover helps you dig out of debt, save for emergencies, and invest for the future. After paying off all your consumer debts (except your home), you will have a large disposable portion of your income that can be allocated towards investing for retirement. Saving 15% of your income for retirement is not an amount that experts pulled out of a hat. That number will help you save and invest enough to help ensure that the odds are against you to run out of money in your golden years of retirement.
A Review of the Basic Steps for Saving, Eliminating Debt, and Building Wealth
Ramsey’s program and book, “The Total Money Makeover“, include the following baby steps to financial freedom…
- Step One: Save $1,000 for an emergency fund
- Step Two: Use the debt snowball method to pay off your debt
- Step Three: Complete the emergency fund
- Step Four: Invest 15% for retirement
- Step Five: Save for your Children’s college
- Step Six: Pay off your mortgage
- Step Seven: Start building wealth
For the next seven days, I will be detailing each one of these baby steps in more details. So, please check back or sign up to get all of the posts in this series in your favorite RSS Reader or by E-Mail.