This post is from GRS staff writer April Dykman. It’s also a part of National Save for Retirement Week
A few weeks ago, J.D. asked me to consider writing a post on retirement for National Save for Retirement Week. As it was intended, National Save for Retirement Week made me reflect on the state of my and my husband’s retirement accounts.
Currently, our retirement savings are a tad pitiful. I have a 403(b) through my employer, who contributes to my account whether or not I do. After five years of employment, I’ll be eligible for a match. I also have a Roth IRA, though I stopped automatic contributions when we buckled down to pay off the credit cards and the auto loan. My husband doesn’t have a Roth IRA or 401(k), as it’s not offered through his employer.
Retirement is important to us, but we decided to defer significant saving for retirement until we were out of debt and had saved up for a down payment for our house. But in the spirit of National Save for Retirement Week, I’ve started to question whether that’s the best solution.
Our original plan: House first
Originally, we decided to put retirement savings on the back burner to save for the down payment on our house for a few reasons:
- We want to avoid private mortgage insurance (PMI). If we can put down 20 percent of the purchase price of a home, we’ll can avoid paying PMI, which is an initial premium payment of 1 to 5 percent of the mortgage (and may require an additional monthly fee). We could put down less than 20 percent and cancel the PMI or refinance without it when we’ve built enough equity, but we’d like to try for the 20 percent goal.
- We don’t plan to move from this home, so we like the idea of immediately having a substantial amount of home equity.
- We aren’t eligible for any employer contribution matches. My husband’s employer doesn’t offer one, and I won’t be eligible for another two years. (If one of us could receive a match, we’d contribute enough to take full advantage of it, since not doing so is turning down free money.)
- While we could make penalty- and tax-free withdrawals from our Roth IRAs (as long as we only withdraw the amount we’ve contributed), our down payment savings is safer in a money market account or certificate of deposit, since we know we’ll need the money in the short-term.
Once we saved up for the down payment, we’d turn our attention to maxing out our retirement plans.
Rethinking our savings
Now, however, my feelings are mixed. I’d like to start socking away even just a small amount each month for retirement. Just because we’d only contribute a small amount right now doesn’t mean it’s an insignificant amount. With many years ahead of us before retirement, the power of compounding has plenty of time to make the money grow.
Also, as those who’ve read my past posts already know, I believe personal finance and psychology are inseparable. Besides getting our retirement savings going, there’s a psychological boost to seeing that we are saving for the future every month. If we put just $200 into each of our IRAs starting this month, that will be $1400 in each account before the end of the tax year. I think we have enough room in our budget to come up with a few hundred dollars each month.
Another benefit is that once we’re settled into our new home and can direct our savings toward retirement, it will take just a few clicks of the mouse to increase our contributions. Our accounts will already be open and established, and we’ll already be used to making an automatic contribution. There will be no reason to put it off, no accounts to open, no paperwork to fill out, and no automatic transfer forms to complete. The more ways we can circumvent laziness and inaction, the more likely we’ll follow through with our plan.
Finally, we aren’t getting any younger. The longer we wait, the less time our money has to grow in our accounts. We’ve paid off our debt, we have an emergency fund, and there’s really no excuse to not save something. Anything. If not now, then when?
The new plan: Saving for both
In honor of National Save for Retirement Week, we’re going to take action. My Roth IRA is with Fidelity Investments, so I’ll simply reinstate the automatic, monthly contributions. We also will open a Roth IRA for my husband with Fidelity. I like their no-fee IRA and $200 starting investment (offered if you invest in mutual funds and agree to automatically contribute $200 per month, otherwise there is a $2,500 minimum initial deposit).
That’s the top priority on our to-do list this week. We’ll look at our budget to see exactly how much we can start contributing, and we’ll basically put our contributions on auto-pilot. Next year’s goal: max out both IRAs.
What about you? Do you think it’s a good strategy to build a down payment if it means compromising your retirement savings for a short period of time?
This article is about Choices, House and Home, Real-Life, Retirement
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April, I don’t think you can go wrong here. In both cases you’re building equity for the long term. I completely agree that 20% is the minimum downpayment you should consider for buying a home.
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Yes, I understand the reasoning behind the first item in your list: “We want to avoid private mortgage insurance (PMI).”
What I’m asking about is the reasoning behind the second item: “We don’t plan to move from this home, so we like the idea of immediately having a substantial amount of home equity.”
Neither avoiding PMI nor paying off the home early has anything at all to do with equity. Ask anyone who put down 20% on a home that’s dropped in value by 20% over the last few years. Or talk to anyone with a paid off home with a low valuation.
“I don’t want to be making house payments” is different from “I want to have a large (positive) difference between the value of my home and the amount I owe.”
The first is relevant when paying off the home, the second is relevant when talking about equity.
Would the list be more accurate if you just left the second item off?
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I think it’s okay to briefly put off retirement savings in order to get the house. I don’t know, I just have a hunch there’s no better time to buy a house than right now, especially if you really will stay put there. Plus, what you say about PMI is important. When we bought our house we paid PMI for six years, until we refinanced. That would have been a tidy little sum to go into the 401K. But I also hear in your post a comfort level in spreading your money around to both retirement AND down payment, so that’s actually the most important thing.
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Bob @30 – While your take on the market is accurate as an overall description (many, many stocks are priced too high still) it is not reflective of what someone can do with a bit of research.
I have had a phenomenal year with my stock returns. I carefully research and select stocks that are underpriced but are solid companies. As a result I have bought many that have generated up 100%+ returns in as little as six months. Overall my portfolio is up over 60% year to date. I sold most of my holdings last year before the crash – waaaaayyyy too many indicators for me to stay in. If I had stayed out of the market I would have missed one of the best investing years I’ve seen since 2003.
Investing takes work but smart investors can make very consistent returns. If you’re looking to start out investing in the market follow proven performers like the Motley Fool guys: http://www.fool.com. I have used their advice for over a decade with excellent results.
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I think avoiding PMI is a worthy goal! Certainly, a “guaranteed return on investment” when compared to what you would have to pay w/ a smaller down payment. There’s not much guaranteed any more. Those of us who saw many years of investments vanish last year (and not near recovered now) may be questioning the common wisdom about compounding.
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I pick the house first, then start the nest egg.
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@James #22
Stop looking at yourself as the one doing something right just because your friends have chosen to spend their money on trips and eating out. Stop the self-righteousness of some personal finance crowd. As J.D says, “Do what works for you.” And I can add, “Enjoy it as you do it.”
Same to you April, do what works for you. I think you mentioned in an earlier post that you and your husband are going to have your house built from zero, that could mean not being able to contribute a lot to your retirement but a little would be okay. Again, do what works for you.
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I’d say either way she has her ducks in a row so it’s all good.
It’s ultimately pointless to debate such small points as PMI, current insentives to buy (low rates, government money), etc., as long as the bigger picture is being looked after. April is clearly looking after her family on the whole so her idea of saving a little bit for both a house and retirement is great and she should stick with what works best for her family.
The point of the exercise is to save money and plan for the future and as long as you keep that in mind, you’re on your way to financial success.
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@victoria #57
I don’t see James (#22) being self-righteous about it at all. He is even careful to add “to us” to his statements, meaning he’s fully on board with “do what works for you“, and knows that it won’t work for everyone.
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We recently took out half our nest egg(s) to pay off the house, and start a residual business that we can do when we’re older. After watching these bums in Wall Street, we don’t want anything to do with their game(s).
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@56 John
My vote is to save for house then nest egg as well. That is if you are out of debt and have 3 to 6 months of savings. Get a house pmt that works in your budget and you can bust your butt on the nest egg.
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Ultimately to me: Money is money. I know it may have different colors as you intend it for different things. I have money colored for ‘emergency’ or for ‘car insurance’, but as far as long term items I just have one big pile. I don’t set aside money for my daughter’s education because I think most of the investment vehicles are bogus. Why pay their fees and deal with their limitations when I can just throw it into my general pile and know it will be big enough when she gets there?
House vs. retirement to me is between post tax and tax-deferred accounts (or tax advantaged in the case of a Roth). I put a sizable portion into my retirement account not because I need an account labeled for retirement, but because I avoid paying income tax on that amount.
If you don’t care about the taxes then throw it all at the house. The sooner you are in the house the sooner you aren’t paying rent, which will be a financial boon. Because either way you are saving the money rather than spending it.
Of course that assumes that you can respect the ‘money is money’ philosophy. If you are going to buy a Viking range because the money is there to spend, then you have defeated the purpose and are better putting it into a retirement account out of reach.
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“our down payment savings is safer in a money market account or certificate of deposit, since we know we’ll need the money in the short-term.”
You can open a Roth account at a bank and get FDIC insurance like any other savings or CD. The advantage of the Roth account is that you don’t have to pay taxes on earnings. You may find you don’t need all the money you have saved for a down-payment, in which case you have a head start on your retirement savings.
There is really no reason not to move your emergency fund into a Roth as well if you are under the $5000 annual limit.
Since whatever you save should be in Roth accounts anyway, I think the real question is whether it makes sense to use retirement savings for a down payment.
With housing still over-priced, now is not the best time to buy a house unless you are getting a low interest rate on a 30 mortgage that you intend to pay off. If you stay in the house, the low interest rates will probably more than make up for the inflated price you pay for the house. You will find adding money to the retirement accounts gets easier as over time Your income will likely increase while your housing payment will remain fixed. Whether it makes sense to buy or save more depends on your local housing market.
Interest only compounds when you earn interest. There is no benefit of compounding with stock except to the extent you reinvest dividends. Over the past ten years not only has their been no compounding, but stock has declined in value. You have less than when you started. In the long run that shouldn’t happen, but in the long run we are all dead.
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You seem to be on the right track. Balance is the key. Since we’re talking about nest eggs, don’t put all of them in one basket.
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I’m a bit frustrated with the constant hype about ‘saving for retirement’ on here. Why does it only have to be saving for retirement that’s a worthy goal? ANY saving or investing, ANY amount that you do not fritter away, is worthy. Whether that’s putting into a house deposit (assuming a house that is within your means) or shares, or just in an ING account, it all grows your wealth.
Maybe this a cultural thing where Americans use the term “saving for retirement” where I’d say “increase your wealth” or “achieve financial independence”, but the term honestly makes me feel like I can have zero fun now and get no benefit from my money until I’m 60. It makes me feel uber conventional and miserable.
In April’s position I’d probably avoid the retirement savings for now and keep saving solely for the house downpayment. Why? Because the market is currently depressed so you want to get into it as soon as you can. Also because she’s being sensible about staying in the house for the long haul. Also, if she needs the money in the meantime (BIG emergency, whatever) it is available, whereas tying it up in a retirement account puts it out of reach.
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Nicky (#65) wrote: I’m a bit frustrated with the constant hype about ’saving for retirement’ on here. Why does it only have to be saving for retirement that’s a worthy goal?
Well, it’s not the only worthy saving goal. Nobody said that it was. But it’s an important goal, and one that many Americans neglect. Plus, this is National Save for Retirement week, so I’m going to pimp retirement! I’ve done this in the past with other weeks, too, like Thrift Week, etc.
You’re right, Nicky, that all saving grows wealth. The important thing is to save!
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I think it is important to find that balance. I don’t look at it as an all or nothing situation. That seems to be what you are looking for, the balance for you. I commend you for your search and hope it works out well for you.
Most people don’t realize what they are giving up when they delay saving for retirement. I recently wrote a post on it titled “It’s Just 3 Years” http://evolutionofwealth.com/2009/10/20/its-just-3-years/ It ends up costing about 20% of your retirement and that could easily be $250,000. Does that make you look at things differently?
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I would say it would depend of the age of the couple.
The younger they are, the more apt I would be to say yes, save for the down payment.
Closer to retirement, who cares? They’ll probably never approach paying off the house anyways
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There are a lot of variable that should be considered. There is not one right answer.
We chose to save for the house first and build retirement after. In retrospect, I believe I was very wrong.
What was originally saved could have been building rapidly now with compounding interest. Running the numbers from our twenties until our expected retirement age and even assuming housing values continued to rise, there is no question which would have been the better financial decision.
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I’m reading this thinking wow – it’d be nice be able to easily find $400 extra dollars each month to contribute to retirement savings….
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Do both, but build MORE for retirement than for the house.
As someone else pointed out, if you are going to med school you may not wind up staying in whatever house you buy — and depending on selling conditions, you may lose some of that equity. Or you may be unable to sell it, and the equity gets trapped even though you need to move somewhere else. Who knows what you’ll be doing in five years (which in a normal market is the minimum you usually see people recommend planning to stay in a house you’ve just bought)?
On the other hand, you certainly will retire someday. No maybe about that, is there? Even with wild swings like last year’s, you need to start yesterday if long-term compounding is going to work in your favor.
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Saving for your nest egg is incredibly important, but right now the housing market is so affordable that it could become your nest egg if you bought a home. It’s a truly tough call.
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@#71 “You will certainly retire someday. No maybe about that, is there?”
Actually, there is a “maybe” for anyone of us.
I agree with the majority that it is important to save for retirement or really just to save; we actually haven’t started any of these accounts yet and I am going to look into them. So thanks to everyone for the heads up.
I just want to put out there that while saving for retirement and doing all the financial things talked about in these posts are definitely important, sometimes fulfilling dreams and other goals are just as important. While hopefully we can look forward to “retiring” (personally I hope to work doing work that I find fulfilling for as long as I am able), life works in mysterious ways. My father and both my husband’s parents died before they reached or just as they were about to reach their retirement.
Live wisely as suggested in these posts, but also live well and without regrets.
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This is what I like about this website. You get various opinions and explanations about the value of the different options. This is important because what “do what works for you” real means is figure out what you want, get educated on the options and make a plan to get the results you want. The key is financial education and then making and implementing a plan. Either way or both work depending on what is important for your family, but you have to have a solid financial plan in place our else you will squander your money. Thanks Get Rich Slowly for helping all of us to stay focused on our plan and to get educated about the options!
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You should always put money always for retirement first. Home ownership is part of the american dream, but historically (1920s to present) home values only rise an average of 2-3% a year. Bonds averaged 4-5% and stocks (S&P 500) averaged 8-12% over that same time frame. You’re better off putting money into stocks or bonds.
One other thing to consider is by not contribution to retirement accounts you are forgoing the tax benefits. You can’t make up for this…there’s no catch up. For example, if you forgo contributing $5,000 to a Roth and instead put it in a savings account/CD to save for a home, you have to pay taxes on the interest and you can’t contribute an extra $5,000 next year. Over time this has a huge impact.
I’m not saying owning a home is bad, just not the best use of money when it comes to retirement savings vs owning a home.
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@Rich–I didn’t say it would be easy, just that I think we can do it!
I’m still working on the details of how we’ll make it work.
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Interesting post. I found myself in a similar situation, but decided to do the exact opposite. Over the past 2 years, I’ve stayed in a good rental situation and loaded our retirement accounts through Roth IRAs and 401(k)s.
Most of our family members think we’re crazy to keep renting and I would be retired now if I had $1 for everytime someone said, “It’s a great time to buy a house…”
We had our first child last week and our place is starting to feel a little small. Emergency fund aside, it will be a few years until we can amass the 20% I wanted for a house. All the retirement calculators have us way ahead of the game, but our Roth accounts are only 2 years old and the cash won’t be there to buy a house for a while.
Very interesting article to see someone in a similar situation that happened to take the other path. I have no regrets, as the market was very kind to our retirement accounts (Did most of our buying in March 09), but wondering if the next two years will bring regrets.
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Good luck! We all may not last past tomorrow, so I think the hard decision for you is “what makes me happy now” vs. “what will make future-me happy”.
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Adam @77, I always try to remember that my retirement accts really shouldn’t be followed too closely. I’ve got lots of time to ride out any difficulties.
As for renting, you may find once the little one is running around and getting into things, a small place makes things easier.
Anyway, what are you doing online? Go get some sleep! Congrats on the new baby!
This will not work for everyone, but whenever I get a tax return I put the full amount in my retirement fund. I figure I lived without that money all year, I can live without it now.
Of course, there are lots of situations where this won’t work. For instance, last few years I’ve had to actually pay out instead of getting a return. I don’t count on this money. But for someone looking to find extra cash, it’s a good source.
My hunch is if you can’t save for a house and retirement, perhaps you need to rethink whether you can afford a house or whether you are budgetting in the best way. Just a hunch though…
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Remember… When is the best time to buy a house?
The answer is always “10 years ago”.
Why? Because if you stay in a house for 10 years you’ll have lived through the ‘house poor’ years when you’re outfitting it and customizing it, and, you’ll have begun making a dent in the outstanding principal, and, hopefully won’t need PMI anymore, and, under normal circumstances inflation would cause the house to be worth more. (Don’t confuse inflation gains with the house being ‘worth more over time’. Normal median and below houses are a depreciating asset, not an investment, assuming no inflation and no refurbishment.) And, since housing is still overvalued relative to what they rent for, buying now is still akin to trying to catch a falling knife. You can do it, but there’s a substantial possibility of your getting hurt.
Remember, at the beginning I said that the best time to buy is always 10 years ago. If you’re going to stay in the house for that long – for certain – then anytime is a good time to buy a house (assuming you exercise the usual due diligence and not buy on an emotional whim or because somebody dangles a couple thousand dollars in incentives in front of you).
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An interesting analogy I have found useful in making decisions is you can always correct a course once you are underway, but spinning the wheel while you are still tied up to the dock is an exercise that contributes no change to the eventual outcome.
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I think you’ve made an excellent decision by concentrating on both. Why? Because you have your whole life to pay off a house, and the extra PMI expense is nothing compared to what you’ll get in the long run by contributing to your Roth IRA earlier. Think about it… You save a few bucks on PMI with a larger down payment now. But save it for what? To invest? Why not invest now? Also, if you put more in retirement (and the earlier you do, the more you’ll have later) and you wait another year to meet your 20% down payment goal, the way the market is, housing prices might be 5% or more lower. At just 5%, a $200,000 house becomes a $190,000 house, which means your 20% down payment only needs to be $38,000 instead of $40,000. So, in essence, you made $2,000 AND you invested for retirement, and that doesn’t even take into account the extra interest on your savings by waiting an additional year!
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I think its a great idea to follow the path of both. Like Your Roth IRA said PMI expense is nothing to what you will get in the end.
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I know that many financial experts, including Dave Ramsey, recommend that you put your house before retirement. But that advice just doesn’t resonate well w/ me, considering the power of compounding. So we are putting 20% of my husband’s gross income into retirement now that the debt is paid off (10% before). We are now building up an emergency fund. When that’s done, we will open 529s for our children and simultaneously begin building up a home down payment fund. It may take us a year or so longer this way, but I’ll sleep bettter at night knowing that my husband’s future and children’s futures are taken care of.
As for me, right now I’m a SAHP, and I am paying for that with no retirement savings.
I am going to remedy this in the near future by placing 50-60% of my personal “wants” money in a Roth IRA and also starting a couple of side businesses. The goal is to max out my Roth IRA this first year.
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Those who are dealing with account minimums should look at sharebuilder. They dont have any. I searched numerous houses trying to find a place while going to school and am now renting an apartment. When I finish school will work on finding a house. For now my first focus is actively managing my portfolio.
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