Is a Roth IRA right for you?

If you are not familiar with a Roth IRA (Individual Retirement Account), it is similar to our Roth TSP. You deposit money into the Roth IRA after taxes and that money grows tax free. As of 2018 you are able to contribute up to $5,500 a year. For those ages 50 and above, you are able to contribute up to $6,500 a year. Now I know that $5,500 doesn’t sound like a lot of money but allowing your money to compound over time can really add up. Now if you haven’t figured it out already from my previous posts, I like charts. So in that spirit, in the one below I will assume an 8% annual interest rate over 20 and 30 years, provided you deposit $458 a month ($458 x 12 months = $5,496).

Years	Total Principle	Interest Earned	Maturity Value
20	$109,920.00	$161,649.83	$271,569.83
30	$164,880.00	$522,255.19	$687,135.19

I know you are probably thinking why would I want to invest in a Roth IRA when I have to option of a Roth TSP? Plus with the Roth TSP I can deposit up to $18,500 a year versus $5,500.  Well with a Roth IRA you have greater flexibility in how you choose to withdraw your money. While it is true you won’t have access to your money until age 59 ½ without penalty, you can withdraw your principle at any time as along as you have had the account for 5 years. But, you have to leave the interest earned untouched until that magic age. Unlike the TSP you are not obligated to make withdrawals at age 70 ½ so that money can continue to grow.

Best way to include the Roth IRA in my plan 

In order to incorporate the Roth IRA into your current retirement plan I recommend that you contribute to your TSP until you reach the 5% match. Then above that start contributing to a Roth IRA until that is maxed out. Then go back to your TSP and increase the contributions beyond that 5%.

Where to Invest

There are several low cost companies where you can open a Roth IRA. www.fidelity.com, www.troweprice.com, www.vanguard.com, www.schwab.com.  It only takes a few minutes to open an account online and it is easy to do. If you are wondering what to invest in, try looking at Targeted Retirement Funds. Where you pick the year closest to when you plan to withdraw or retire and just set it and forget it, letting the investment company you chose manage the fund for you. If you want more control over your investment try looking at Index Funds, Exchange Traded Funds (ETF’s) or Mutual Funds. Funds are less risky to invest in than single stocks since one fund can include investments into hundreds of companies.

Do you qualify to invest?

For 2018 you are eligible to invest in a Roth IRA if your Adjusted Gross Income (AGI) for single/head of household and make $120,000 or less. Married filing jointly and make $189,000 or less. Also if you are a non-working spouse, you may qualify for a spousal Roth IRA as long as your family meet the income limits. Visit www.irs.gov for more detailed information.

As usual it is up to you to decide if a Roth IRA will work with your retirement plans.

Ms. Smart

Traditional TSP versus Roth TSP

Note: As of 2018 the maximum you can contribute to you retirement account is $18,500. For this article I am going to use $18,000 maximum contribution over 20 years into your Thrift Savings Plan (TSP). For Non Federal employees who have come across this page the TSP is essentially the same as 401K and Roth 401k.

To start I would like to define the difference between the Tradition TSP and the Roth TSP.  With a Traditional TSP you receive a tax break. Meaning you will not pay taxes on that money while working but you will have to pay taxes on that money when you retire. With a Roth TSP that money is counted as part of your income so you pay taxes on that money while you work but all of that money including the growth is tax free in retirement. Now that we have the logistics out of the way lets continue. 

A common theme I hear is I can’t contribute to a Roth TSP because I need the tax break.  So I wanted to see if the numbers work in the long term. Would it benefit not only you but me to pay the taxes upfront by way of the Roth TSP or pay the taxes on your money when you retire? So I started with the premise that if I could contribute $18,000 a year over 20 years what that would be.

$18,000 a year at 8% annual interest means you deposit $1,500 a month or $693 a pay period.

Years	Total Principal	Interest Earned	Maturity Value
20	$360,000	$529,420.81	$889,420.83
25	$367,500	$559,617.50	$927,117.47

As you can see from the chart above your total contribution over 20 years will be $360,000. If you average 8% interest on your money over that time you will have $889,420.83.

According to 2017 tax bracket

Single Income		Married Filing Jointly		Head of Household
15%	$9,326-$37,950	15%	$18,651-$75,900	15%	$13,231-$50,800
25%	$37,951-$91,900	25%	$75,901-$153,100	25%	$50,801-$131,200
28%	$91,901-$191,650	28%	$153,101-$233,350	28%	$131,201-$212,500

Using the 2017 tax bracket for this next example I will assume that you are in a 25% income bracket. Now using our previous numbers that you are contributing $18,000 a year into your TSP, if you are in the 25% bracket it means you are getting a tax break of $4,500 ($18,000 x 0.25) a year if you invest in the Traditional TSP or you are paying and extra $4,500 a year if you invest in the Roth TSP. Now I know on the surface it looks as if it is a no brainer decision to get the tax break while working. Who wants to give the IRS an extra $4,500 of their money? Plus, over 20 years that will be $90,000 ($4,500 x 20) you will have paid to the IRS. 

 Let’s assume that at the time you retire you will no longer be in the 25% tax bracket but now you are in the 15% tax bracket. Now I know that 15% looks good. Hey, who wouldn’t want a 25% tax break while working to only pay 15% in taxes on your money after you retire? So, in order to decide which path was right for me to take I wanted to know what 15% of the $889,420.83 will be and is that number less than or equal to the $90,000 extra I would pay in taxes if I chose the Roth TSP. What I came up with is that it was much more at $133,413.12 ($889,420.83 x 0.15). Then looking at that and the fact that I have no plans in liquidating my account when I retire but to pull small percentages off per year while allowing my balance to continue to grow. Which means the amount of money I will be paying to the IRS will be even higher over my lifetime after I retire.

Calculating from where you stand now.

Now I know what your next questions will be. I am 10 years away from retirement, how do I see if the Roth TSP will work for me? I am not maxing out my retirement account; I am only investing $300 a paycheck. How will do I know if this is right for me? Well in the chart below I will show you how to calculate and decide if it is a good idea for new contributions to be allocated to the Roth TSP.

Before we start, most compound interest calculators ask for monthly deposit amount. So we have to convert the $300 a pay period (every two weeks) in to a monthly amount. $300 x 26 (pay periods a year) = $7,800/ 12 (months in a year) = $650.

Yearly Principle	Current Tax Bracket	Taxes +/-	Years until retirement	Total Taxes while working
$7,800	25%	$1,950	10	$19,500

Monthly Deposit	Years until retirement	Interest Rate	Total Principle	Interest Earned	Maturity Value
$650	10	8%	$78,000	$41,707.69	$119,707.69

Maturity Value	Retirement Tax Bracket	Total Taxes in Retirement
$119,707.69	15%	$17,956.15

Now looking at the “Total Taxes” from both charts you will see that there will be more taxes paid while working than in retirement.  But keep in mind that it is only about a $1,500 difference and if you plan to take small calculated withdrawals while allowing your balance to continue to grow it may still be a good idea to start the Roth TSP.  Plus the Roth portion of your retirement is all tax free when you make withdrawals. Oh and if you are wondering, you will still receive the employer match. The match will be deposited into your Traditional TSP portion of your account.

After running my calculations I decided that the Roth TSP was right for me now you have to decide if it is right for you.

Ms. Smart

Is borrowing from your TSP a good idea?

Note: TSP stands for Thrift Savings Plan. If you found this article and are not a Federal employee the TSP is the equivalent to a 401K.


One day I was searching the internet to get an idea of home prices, so I would know how much more money I needed to save to have 20% down. A coworker saw me and asked where I was looking to buy a house? I told him I was still a couple years away from buying because I wanted to save more money to avoid PMI. Here’s how the rest of the conversation went:

Coworker: Why do you want save more money it’s a buyers’ market? You should buy now and borrow from your TSP. 

Ms. Smart: Why would I borrow money from my TSP? That isn’t a savings account that money is for retirement.

Coworker: You pay yourself back at 3%. I did it and I was able to buy a house at a great price. If I waited the house would have cost me much more.

Ms. Smart: Let me show you something.

So I proceeded to log into my TSP and clicked to view my 12 month Personal Investment Performance, which at the time showed just shy of 13% gain. So our conversation continued.

Ms. Smart: Over the last 12 months I’ve made almost 13% on my money. So why would I want to borrow from my TSP and lose the 13% growth to pay myself back at 3%?

Coworker: Oh I never thought of that.

Well needless to say this got me thinking. How much growth on the money did you lose by borrowing?

According to TSP website:

 

Let’s say a person who borrowed $20,000 for a down payment on a house but took 5 or 10 years to pay back. In the chart below you will see what that $20,000 would be if left alone to grow at 8% interest over 5 years and then over 10 years.

Years	Interest Amount Earned	Maturity Value
5	$9,796.91	$29,796.91
10	$24,392.80	$44,392.80

$20,000 at 3% (what you will be paying yourself back)

Years	Monthly Payment	Total Interest	Total Payment
5	$359.37	$1,562.20	$21,562.20
10	$193.12	$3174.40	$23,174.40

Well there you have it. I gave you the numbers, now it is up to you to decide which path is best for you.

Ms. Smart

Which Mortgage Term is Best?

When you opt for a career with the federal government you may end up with a 20 year or 25 year career. With that in mind let’s talk about mortgages.  Instead of doing the normal thing and getting a 30 year mortgage, try looking at a 15 or even a 20 year mortgage if you think you will have problems affording the payments on a 15 year. Besides saving a ton of money on interest over the years, think about how great it will be to enter into retirement without a mortgage payment. At the time that I am writing this article mortgage rates range from 3.375% for a 15 year to 4.0% for a 30 year.

Based on Conventional Loan of $200,000:

Years	Interest Rates	Monthly payment	Total payment	Total interest	Annual payment
15 YR	3.375%	$1,417.52	$255,153.60	$55,153.60	$17,010.24
20 YR	3.75%	$1,185.78	$284,587.20	$84,587.20	$14,229.36
30 YR	4.0%	$954.83	$343,738.80	$143,738.80	$11,457.96

As you can see from the chart above, there is a savings of $88,585.20 between a 15 year and 30 year mortgage. Yes, I understand you will be paying an extra $463 in order to do a 15 years mortgage. But, you can’t ignore the amount of money you will save. If you stick with a 30 year mortgage you will end up paying almost double for the house even with a low 4.0% interest rate.

Let’s face it many of us can’t afford the payment on a 15 year mortgage so let’s look at the savings you can expect by choosing a 20 year mortgage over a 30 year. That is a difference of $232 in monthly payments and a savings of $59,151.60 over the life of your loan.  Plus, think of what you can do with the $59,000 in interest you save. I know what you are thinking, “Ms. Smart that savings isn’t actually in my hands.” But, it can be. Let’s say you are on a 25 year career path and you just paid off your house in 20 years. You can continue saving just $984 a month, which is still $200 short of what you were paying in mortgage and at the end of 5 years you will have $59,040 saved. That money is now in your pocket and not in the pocket of the bank.  So you choose which mortgage term is best for you in conjunction with your career path.

Even if you have already purchased a home try looking at refinancing to lower your term. There are many options, even a 10 year mortgage term if you have been in your home for some years already.

Ms. Smart

The Beauty of Financial Allotments

As federal employees you have access to Financial Allotments, a convenient feature on your EPP page. I personally love this feature to help save money, and you might too! Everyone needs an emergency fund, plus we never know when another furlough may come our way. If you have problems saving money, this feature will help you split your check into different bank accounts.

What the Left hand column of EPP page will look like:
 

To set up a financial allotment all you have to do is input your bank routing and account number. Then input the amount you want to come out of your pay check every two weeks, but first, consider setting up an account at a different banking institution.  This is what I look upon as a way to” trick yourself”, in order to keep your hands off of these accounts. In the beginning I opened an account at a credit union across town in an area where traffic was so bad I hated driving there. When I set up the account I informed the bank that did not want an ATM card. Doing this made it harder to spend money on whim, because I physically have to drive to the bank and stand in line to withdraw money. Now-a-days online savings account can work the same way.  Just don’t link the account to your normal banking institution and leave the ATM card at home.

 See how quickly even small amounts of money from your paycheck can add up quickly.

Amount               Pay Periods            Total

$25                         26                           $650

$50                         26                           $1300

$100                       26                           $2600

Over time your spare cash can add up, giving you a nice pile of cash over the years.  You can set up as many savings accounts as you like, one for emergencies and another for Christmas or vacations. This is why I love using financial allotments, it makes sure the money is out of sight, out of mind and never deposited into your regular checking account.

Ms. Smart