Today, Jamie Nau sits down with Kim Moore to talk about one of the most asked question, which is "What should I do so I could plan for my retirement?". Answering this question not just from the perspective of a plan sponsor but also from an individual's perspective focusing primarily on the 401k aspect of your retirement plan.
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“Planning as early as possible makes the whole process easier.” - Kim Moore
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Jamie Nau: Hello and welcome to today's episode. Once again, you have Kim and Jamie here from Summit CPA. I think today's episode is going to be one of the most popular episodes, because I'm sure, Kim, as someone who works with 401(k)s all the time, gets questions about what should I do to plan for my retirement? So we're going to talk about that. I think Kim will know a lot of great tips, and I'm sure I'm going to learn something as well as our listeners. So welcome to the show, Kim. Yeah, thanks.
Kim Moore: Thanks Jamie, for getting us kicked off here with the topic today. I'm going to talk about it from a plan sponsor perspective, but also from an individual perspective. So that could be as a participant, just as a general employee or just as an individual. I mean, maybe our listeners are listening in and they're wondering for themselves, you know, when can I retire? How do I prepare? What do I do? What are the things that I need to think about? Again, we're going to do this from a 401(k) plan perspective. So we're not going to talk about all the different things that you might have done outside of your 401(k) play. But we're going to kind of focus from that perspective. So, you know, one of the things that I think is, retirement is one of those things we all kind of look forward to. We hope it's going to go well, but it's always off in the future until you are older and then all of a sudden it seems to have snuck up on you. You're scrambling at the last minute to figure out do I have enough money? Where is all my money? You know, how do I take care for this? So one of the things that we wanted to talk about is planning as early as possible, it makes the whole process easier. That's true regardless of whether you're talking about a 401(k) plan or you talk about anything else, if you talk to your investment advisor, you know, they'll go through the whole life cycle that if you start early, even if it's a small dollar amount and you accumulated for your lifetime of working a big pot of money at the end because, of course, it's got time to have all the investment gains throughout all the years. And you can recover from losses, which we all have seen over the last few years with the market going up and down with the pandemic to get plenty of time, you know, to recover from that and invest when it's down and do all the things that the investment folks tell you. So, I mean, I think that kind of goes without saying, but it's very true for your 401(k) plan too. So one of the things that we encourage both participants as well as employers to talk about is starting early. I know it's really hard when you've just probably graduated from college and you're just starting out and maybe you're starting a family. And we all know that there's a whole lot of expenses at that time. Maybe you've got student loans you still have to pay off. So, again, it's very easy to have that mentality of well, I know I need to do this, but retirement's a long ways away. I'll do it in another year or two or ten. Then the next thing you know, it's getting close to retirement and you don't have any savings. So I can't stress enough the importance of both as a participant trying to find a way to save, even if it's a dollar, five dollars, ten dollars, you know, you think, well, why bother? That's how small the difference is going to make. But over time, you'd be amazed. So go in. If you don't believe me, go in. There's a lot of online free calculators. Just go, you know, Google retirement savings and it'll show you if you put in so much a pay period, it'll calculate for you the estimated amount that'll amount to by the time you get ready to retire based on your current age and, you know, average returns and things like that.
Jamie Nau: I guess my question of this area is, I know my own story. I heard this advice, same thing when I was getting out of college. I was like, I’ve got to start right away. I’ve got to start with my first paycheck. Make sure you're contributing to your 401(k) as long as you're eligible, obviously. But, you know, I remember hearing that advice and the second advice I hear was, you can maximize your match. So that's what I did. I made sure that the amount I was contributing when I was first out of college was maximizing my match. I did that for a long time. As my earnings went up, it took me a while to revisit it. But I'm like, you know, why am I still just maximizing my match? I can't remember how old I was, but eventually I was like, let's try to maximize the amount the IRS lets me contribute. So I guess the question to you is, what would you recommend? I obviously was looking at every year as important in identifying how much you can put into your 401(k), but at what time do you kind of make those shifts of.
Kim Moore: Yeah, I think, you know, if you can look at it annually and again, depending on your employer maybe you get a yearly cost of living or yearly increase in pay, that's a good time. We also talk about, you know, any major life events, just like, you know, an insurance agent will always tell you whenever you have a major event, like you get married, you get divorced, you have a baby. Those are good times. Look at your insurance. I think it's a good time to look at it because if you're getting married, then you're planning for retirement might change depending on what your spouse is earning. Same thing with children. If you're planning on, you know, adjusting your will for your children, that may influence your plan. So I think life events are a good time to take another stock of it. Another good way to think of it is as you're aging in the decades. So as you go from 20 to 30 to 40, that's another good way to look at it, because obviously you're getting closer to retirement. We also tell people to take a look at it every time you have a pay change. So that could be obviously a pay increase or maybe you change jobs, you change positions. So maybe you get a, you know, an increase. You go from one level to another. Those are obviously times to look at it, but also consider other things that happen. What if you get a bonus? What if you are on commission and you get a large commission for some event? Those are other times to take a look at. Number one, what can I contribute out of that? And there are rules in your 401(k) plan around that. So you're going to have to consult with whoever in HR handles your benefit plan to make sure that you can take advantage of it, but you could contribute out of those types of things. But also there might be a match opportunity, maybe there's a profit share opportunity with your company’s plan. So those are all things to take a look at. You know, maybe you want to take advantage of it, maybe you need the money for the bonus or something else so maybe this time you don't want to. Those are all things I think they're good times to consider. So you always want to kind of be doing it on a regular basis, of course it is driven by your income. So those are good times, whenever there's a change in your income to consider looking at it. For me to increase contributions? Let's look at what does that do to the employer side of the contribution too.
Jamie Nau: I think all those facts are laid out. I think the important part is don't be afraid to ask a question. You know, if you don't know how a bonus in your company is going to be matched or how bonus your company is going to be with withheld from, just ask. Especially if you see one coming and try to be ahead of it because you make sure you're handling it correctly, because companies handle it differently and you want to make sure that you're aware of how much you put into your retirement.
Kim Moore: Absolutely. Yeah, and we also advise talking with an investment advisor. Your plan probably has one that they're using. A lot of times they'll just offer them up to employees as well to talk to them so that, you know, they can help you forecast if you would defer on the bonus or not, what is that going to mean to my overall retirement savings in the long run? They can kind of help guide you through that. They can help you with the calculations and things like that. Another good thing we always advise. Another thing that we like to bring up, I get a lot of questions about Roth versus pre-tax. There's two main ways, and this would be your contribution, not on the employer's side, but from the employee side, two different ways you can make your contribution pre-tax. You're contributing a dollar amount or percentage of your compensation into your plan that's going to come out pre-tax. So that's going to help your taxable income when you go to file your tax return. So a lot of people want to do it pre-tax. They figure by the time I get to retirement I'm going to get a lower tax bracket. So it's going to benefit me to do it on a pre-tax basis. The other option though, called a Roth contribution, which is after tax. So it's just kind of the flip side of that. Obviously the tax is going to be paid already so by the time you get to retirement, you don't have to worry about what kind of tax bracket am I going to be in and how much per year, you know, it's going to impact my taxes. So if, you know, if you have the ability maybe to split between pre-tax and Roth, that might be something to consider. If you've got other investments, so you're making investments to your retirement outside of the 401(k) plan, maybe inside this particular plan you want to consider Roth or maybe in your other investments you want to consider Roth. So splitting them we think is a good idea, if you can. We also see a lot of people that will switch employment over time. And so maybe they've got different 401(k) plans in different places. Consolidating them if you can is always a good idea. But regardless, you know, you might have some already in pre-tax, maybe from here forward you want to consider Roth. Again that's something that can get kind of complicated. So I would suggest for the average person talk to your HR rep, your benefit advisor or again if you have that investment adviser they can kind of help you figure out what you have already. What is it looking like by the time you get to retirement. How close are you to retirement. Does Roth make sense? But those are things that we always encourage people to take a look at.
Jamie Nau: A couple of questions here and a couple of different topics you brought up. So the first is on the consolidation. So before I worked at Summit CPA, I worked at a couple of different jobs and my wife worked at other jobs as well and so we did a consolidation recently. The advantage to me was it was really nice to have all my investments in one place. It was a lot easier to track. Other than that, what other advantages are there to doing the consolidation?
Kim Moore: Yeah I mean that's a big one. It's just much easier and you don't have to track as many investments. So managing 20 instead of 100 obviously is a lot easier. But the other big thing is fees, because there are always fees associated with the plan and you may not see them. They may be hidden in what we call the revenue sharing. So you kind of have to dig in. I wouldn't try to do that yourself. I would ask your advisor because it can get kind of confusing. But if you're getting these off of one plan it just makes sense. They all have fees. So if anybody's telling you, oh no, there's no fees, no. Well, they're not telling you the truth because there is always fees.
Jamie Nau: No one works for free, right?
Kim Moore: Absolutely not. So I think that's another reason to consolidate, because that way your fees are just being charged on one account versus multiples. So definitely things to consider. The other thing I would say against consolidation to consider is, what options do you have versus where are you going to put it? So if you're going from a plan that's very good has a lot of options, you really like the investment choices going to something that maybe is not as robust. Maybe you don't like the investments, that might be arguing against consolidating. So, again, you know, as I said, more than one thing to consider.
Jamie Nau: So my second question is, so talk about limits a little bit. I mentioned earlier about the IRS limit on the 401(k) plan. So if I'm maxing out my 401(k), how much am I allowed to put into a Roth? A lot of times when I invest into a Roth I put it outside of my 401(k) plan. It's a separate investment account. But what is the maximum that I can put into a Roth?
Kim Moore: Yeah, the limits change every year. Congress takes a look at it and there's all different kinds of limits too. So there isn't just one. So I would just go out and Google it. What's my contribution limit to a 401(k) plan? That'll give you the most current limit. There's a set amount for a person so an individual can contribute a maximum amount each year into, if you would happen to have more than one 401(k) plan, so let's say you switched employers midyear. It's a total per year. So it's not that amount at one employer and then you get the second amount at the other. It is a total per year. And that's total regardless. So you don't get an amount pre-tax and then another amount, Roth, it's a pre-tax total Roth or a split, it's that same amount. Now, the one exception to that is if you're over age 50, once you hit 50, and then, of course, every year after that and you're still obviously employed, they allow you to contribute a little more. It's called a catch up contribution. That amount varies. I think it's up around six thousand dollars extra. Again that amount gets looked at every year along with all these other limits. So you want to double check that limit amount for whatever year we're talking about, but that gets added into the individual limit. So if you're over 50, you get to contribute a little bit more because they realize you're getting closer to retirement. They want to allow you to, you know, accumulate more. The other thing we want to talk about, though, when we're talking about contributions, as I mentioned, there are a lot of different limits. So there's limits on you as an individual. There's limits for you as an individual in total. So that includes what your employer is contributing on your behalf, along with what you've contributed. Again those are things your employer will look at for you. But there is testing at the plan level that's required. It is called discrimination testing. The IRS, because most people use the pre-tax option, which means that you're not paying tax on that money at the time that it's earned, which obviously then the federal government isn't getting that money right away. They get concerned if employers are trying to use the plan to benefit the people at the top. So that's owners or that's the senior managers, the people that are making usually the most money and they're trying to use the plan to benefit their tax positions, the IRS obviously doesn't like that. They don't want that to happen. So they require plans under certain circumstances and it gets kind of complicated here. We're not going to get into all the details, but a lot of circumstances they have to do something called discrimination testing. There’s a lot of calculations that get very complicated, but it's comparing one group to another group. So it's those highly compensated folks. How much are they contributing versus everyone else? And if the calculation doesn't come out quite right, you fail that test. Then one of the ways that you can correct that is something called, excess contributions, which means you as a participant may get a refund of some of your participant pre-tax contributions, which then, of course, means that you'll have to pay tax on that money because the tax wasn't withheld at the time you originally contributed to it. So if you're a highly compensated person, you're either an owner or maybe you're one of the senior managers at your company, or you're just highly compensated in comparison to everyone else. Again if you're not sure, ask your HR rep. They'll be able to tell you if you fall into that group. Then you want to be careful about that, because that's not a good thing to put money in, it's pretax. You're not going to find out until the following year. So now, you know, you may have already done some tax planning that's going to get messed up because now you're going to owe tax you didn't know that you were going to. So it's not a good thing. So what we recommend here is double check with your HR rep, find out are you in this group. If you are, did they have excess contributions in the past? Is this topic apply? Because there are situations that doesn't apply. So if it does, then find out. There are ways that you can spread out your contributions and where you're maximizing the match, but you're not going to run over that excess contribution. So it's kind of a complicated topic and we don't have time to go into all of the ins and outs of it. But I would recommend just get with your HR rep if you think you fall into that group, and then ask for some advice.
Jamie Nau: Just to chime in here a little bit. I have a client that had that excess contributions this year. I know we've talked about this in a previous podcast. I think this is the importance of having your participants, your employees to participate in your 401(k) plan. We had a whole podcast on that. But this is one of the reasons it's really important because if you have a 401(k) plan offered for your whole company and only four people are participating and they're all your top employees, then their contributions aren't going to matter. We have to go back to exactly what you just said. I think that it is important. If you plan on opening a 401(k) plan for your employees make sure people are participating so you don't run into this, because it is, it can be a problem. Like Kim said, it's not a problem until the testing is done which can be a year later.
Kim Moore: That's right. If you're a plan sponsor and you're listening to this or you're maybe in HR, it can become a problem for you because just think of who are those people that are getting that refund that you're creating a problem for? They're not the people that you want to get angered over a compliance issue. So it is something we recommend everybody take a look at. Just be aware of. Look out for it. Planning, as you mentioned is the key and communication.
Jamie Nau: It's not a fun conversation to have. I can tell you, I'm not even an employee of the company I am just someone that delivers the news to my clients.
Kim Moore: Year, not a good conversation. The next area we wanted to talk about, kind of switching gears a little bit, is talk about retirement age. So, you know, we mentioned start early and look at it as you're going through your working life. But when do you start really caring about this? When does it really matter? And obviously, as you're approaching retirement, that's when you really start looking at this and really paying attention, it really matters to you. One thing people kind of determined their retirement by was Social Security, that's kind of how we all talk about retirement these days. Social Security age of course varies and they're going to be ramping up over time. One of the ways that they're adjusting the Social Security fund is by requiring you to work longer. So we kind of talk about 65 as a Social Security age, but obviously it's going to vary depending on if you take it early, take it later, and obviously when you're retiring and as those ages ramp up. But let's just say 65 for discussion purposes. Don't assume in your 401(k) that that retirement age is the same because they may use the Social Security age or they may not. They can define their own age. So double check that as you're approaching your retirement, you're starting to do planning prior to reaching your retirement age. That will factor in. I mean, you can leave the money in and yet you don't have to take it out once you hit a retirement age. But you may want to you. You may want to start taking money out. Maybe you'd prefer to take money out of your 401(k) and leave it in Social Security a little longer. So that's a number you need to know. What's the retirement age of my 401(k) plan? Then of course you're going to do some retirement planning as you get approaching retirement age. So that's a number you're going to want to know and to factor it in. If you try to take the money out before you hit that retirement age, you can incur a penalty. So that's why you want to know about that. Another thing you want to check is does your plan allow, what are called in-service withdrawals, once you reach the age of fifty nine and a half. That's another important date. Some plans allow this. A lot of them actually are starting to, but some don't. So don't assume that your plan allows that. It becomes important if you're getting close to retirement and let's say you lose your job, or maybe you have a job reduction so you're not making as much money. Maybe you want to start taking some money out of your 401(k) plan because you can't out of Social Security yet. You know, or maybe you just want to retire a little early. You know, that is an option that you might want to consider. So, again, check with your HR rep and find out if that is an option for you. It's a good thing to know even if you don't think you might need it just in case, because you never know, things happen. Then the last age you want to consider is the required minimum distribution age. So you've had this money sitting in your plan. You're getting ready to retire from your job. You know, you can start taking the money out once you retire. Again, you want to check your plan document in terms of what does it say about do you need to start taking money out? Well, the IRS requires you to begin taking money out of your plan once you hit a certain age. Now that age used to be 70 and a half. It's changing to 72. We've got a congressional act that they're working on, which we are expecting them to implement here probably in 2021. That will, we're guessing, increase that age again. Not there yet. But, you know, we're expecting that. Also, there is a regulation for COVID that allows you to not have your required minimum distribution due to COVID unless you want to. You can still do it if you want to, but you're not required to do it. But in general, once you reach that required minimum distribution age you're going to set a plan that over a period of time you're going to have to take out so much so that in theory, before you pass away, you're going to have exhausted the amounts in your 401(k) plan so that you'll pay tax on it. That's the reason for it. But that's another thing you want to factor in to all of that requirement planning, because you know, you're going to have Social Security, you're going to have your 401(k) plan, maybe other investments, and you want to plan that out so that you're paying as little tax as possible. So that's where tax planning comes in.
Jamie Nau: Yeah, I agree. I think the big word there is planning. You need to understand all these ages, all these numbers, you know, understand how much you have in there and really plan out okay, if I tried to retire at 55 and a half, can I get my money out and how am I going to get it and what's it going to look like? Or if I wait until 66, you want to make sure that you're planning and understanding as you the closer you get to retirement, for sure.
Kim Moore: Right, and you also want to make sure you're following the rules of the plan because there are penalties if you try to take the money a little early. You know you really planned it but you end up needing it at an earlier point in time so now you have to take it. Well oops, there's a penalty that'll eat away at your plan assets.
Jamie Nau: You would hate to do everything right. Invest early, make sure you're getting the maximum investment, make sure you're getting to match the. Then all of a sudden you're taking it out and getting these penalties.
Kim Moore: Exactly.
Jamie Nau: So I'm going to throw our email address out there real quick. Again, we're always looking for new topics or if you want to join us and be a guest. We're always here to help. So our email address is: audit@summitcpa.net. We'd love to hear from you. So Kim, any other things we need to consider when investing in our 401(k) plan.
Kim Moore: Invest as early as you can. Stick as much in there as you can. Know your rules and also watch the investments in how the market moves. As we all know it is a big chunk of money if you've been investing. So watch what's going on with your particular investments and the market in general and kind of plan accordingly. Those are the big things to watch. Yeah.
Jamie Nau: Yeah and utilize the resources of your of your company as well. We have mentioned a few here like the HR department, investment advisors. Make sure utilizing everything they give to you, because it really is just good to talk to someone and getting an opinion for someone who is involved with these type of things is really helpful.
Kim Moore: Absolutely.
Jamie Nau: Awesome. Kim, I definitely appreciate the topic today and appreciate your help.