Welcome to round two of Roth IRA indoctrination! Yesterday, we discussed why to start investing in a Roth IRA. Today, it’s all about the how. Are you freaking pumped or what?! Actually, don’t be — that’d just be weird.
I’m really not sure why finance-related tasks always seem so daunting and confusing, but Roth-inizing your money ain’t a thing. Well, it’s not as easy as buying a Chumbawumba song on iTunes, but the hardest step is understanding why it’s a good idea to start one. So if you’ve tackled that mental hurdle, the rest of this shouldn’t be that bad. Let’s get going!
Disclaimer: as is the case in any financial decision, you should consult a variety of sources. This is merely one. I’ll outline what choices we made when starting our Roth IRAs, but there’s a good chance those choices aren’t right for you. So be smart, do some additional research, and remember that any investment is a risk.
1. Choose where to open your Roth IRA
First things first, you need to choose where your Roth IRA will call home. There are lots of options — probably too many options. The most popular choices include online brokerage sites and mutual fund companies. Your bank/credit union might also offer them, but oftentimes their options are nothing more than a glorified CD or savings account.
If you’ve got a trusted financial advisor/parent/rich uncle, start by asking them. Look at your options and see where each differs on account/transaction fees, minimum contributions, investment options, and the ability to set up automatic transfers. But don’t let analysis paralysis stop you in your tracks. Compare your options, ask around for feedback, and pull the trigger.
What we did: When I rolled my 401k over, I opted to go with my existing online broker, ShareBuilder. I already had an account with them and I knew that I’d have a lot of investment options through them. When it came time to opening a Roth IRA for Joanna, I decided to do a little more research. Since I had heard great things about Vanguard, I decided to call them up and see how I’d benefit investing through them instead of ShareBuilder. In short, there would be no fees (annual or transactional) and moving between Vanguard owned funds would be pain-free. So Vanguard it was!
2. Choose how much to invest
After registering, opening, and linking your bank account to your Roth IRA, it’s time to figure out how much you’re going to contribute. But before you throw numbers out, you need to know the rules of the Roth, grasshopper. If you’re making less than $188k as a couple or $127k as a single filer, you can contribute a maximum of $5,500/year, or $6,500/year if you’re 50 or older. April 15th is the last day to contribute under the 2013 tax year, and after contributing, you’ll have a fresh start toward your maximum in 2014.
Another consideration is that some investments require a minimum initial purchase. For example, many mutual funds require a $2000 or $3000 initial investment. But after you’ve made that initial investment, you can usually make contributions of any amount.
What we did: I didn’t have much of a choice with how much to roll-over from my 401k. But with our brand spanking new Vanguard accounts, we decided to go all-in and play a bit of catch up for the last few years of slacking. With a $5,500 budget for each of us, we also knew we’d be able to meet most minimum investment requirements, which would keep almost all available investment options open. For 2014, we’re planning on budgeting and setting monthly ($458/each) or quarterly ($1375/each) auto-contributions to our accounts, assuming we can continue to pursue our goal of maxing out this year.
Pretty dry stuff, eh? Let’s just enjoy this a few times.
3. Choose an investment
Now that you’ve decided where to put your Roth IRA and how much to invest, it’s time to put that money to work. Investing can be really confusing and tricky, but it doesn’t need to be. This post won’t detail the principles of investing and investment types, so spend some time learning the differences between stocks, bonds, mutual funds, and ETFs.
Many financial experts recommend a long-term investment strategy rooted in low-fee, well-diversified mutual funds such as index funds (where you’re essentially buying a little bit of everything traded on a certain market) and target-date funds (where your portfolio will gradually transition to more conservative investments as you near your “target-date” for retirement). You can review some of those principles in this post.
What we did: I knew Vanguard had a great reputation for having a great selection of low-fee funds that keep more money in your investments instead of paying a fund manager. I specifically researched their Total Stock Market Index Fund (VTSMX) and their Target Retirement Fund 2050 (VFIFX), looking at their historical performance vs. actively-managed funds. In one analysis, VTSMX outperformed 80% of similar funds over a 10-year period. And considering we were total noobs looking at a low-fee, set-it-and-forget-it starter fund, these two funds fit the bill. Easy peasy!
4. Watch your Roth IRA have money babies
What’s great about investing toward retirement at a younger age is that there’s not a ton of pressure to track the day-to-day market. After all, you won’t see that money for 20 or 30 or 40 (!) years. But even still, you should take a look at your Roth IRA portfolio from time to time and make sure it’s still working hard to make compounding money babies. And don’t forget to keep putting more money in on a regular basis.
What we did: We’re watching, and surprisingly, we haven’t seen any money babies running around a week after opening them. And for whatever reason, every time I think about a “money baby,” I think of Sea Monkeys — does anyone remember those things?!
And just like that, your Roth-inization is complete. Clear as mud? Hopefully not. While there’s a bit of a learning curve and some unavoidable finance jargon, it’s really not bad. The most important thing is not letting the unknowns stop you from starting it as early as possible. With compounding interest, every single year can make an exponential (literally) difference in your retirement savings.
So what questions are out there? Did I leave anything out or royally mess anything up? Let’s really express our true emotions and feelings to one another and bond around this virtual Roth IRA campfire.