Thursday, December 22, 2005

More on my 401(k) Decision

I wanted to say a little more about my decision to cancel my 401(k) contribution so all you nice people don't worry about me ;)

I am 37 years old and I currently have approx 71k in tax-deferred accounts (401k and Rollover IRAs) and a little over 8k in tax-free accounts (my one Roth IRA) and about $2700 in taxable accounts as my emergency fund. If all goes well with my company, I can expect another $11k or so in my tax-deferred accounts (though the "when" is anybody's guess).

After noodling for about three months, I finally made a decision to re-prioritize my savings efforts until I had my emergency "bucket" fully funded. All year I have read ALL sorts of expert suggestions on how big to make an emergency fund...from the "just use your home equity" camp to the "9 months of living expenses" folks and I have chosen something in between.

My plan is to have 10k set aside in liquid assets to cover three months of living expenses. If things happen to get more extreme, I can access as much as 9k from my own Roth IRA (in contributions) by about April (let alone contributions LaLa has made to her Roth) but for me this is an absolute LAST RESORT. I do not want to touch any of my tax-free assets.

I am not conservative when it comes to my emergency funds as I have lived through a year of unemployment while LaLa had a part time job that paid $12/hr. That year was truly trying financially...but we made it through ok and kept the house ;) I certainly don't intend to be caught in that situation again, but I want to get a little more aggressive in having my savings work for me more efficiently.

I've already put nearly $13k away tax-deferred in 2005 and after I meet my other savings goals for 2006 I will begin 401(k) contributions again -- most likely 4th quarter. But in all honesty, my fund options for my 401(k) are pretty poor. The S&P 500 index fund available to me has an expense ratio of about 1.4% -- yes, 1.4% ... on an INDEX FUND. So part of my decision to re-prioritize my 401(k) funding has to do with thinking I can do a little better with my money...despite the tax hit....again, not for the long haul necessarily, but while I get things in order.

Starting this month, I can put an additional $800 a month toward the emergency fund. I had been putting a steady $100 a month in, augmented by other inflows that came my way each month (rebates, ebay sales etc). LaLa will also be reprioritizing the savings pools but her income is erratic (she is a freelance web and graphic designer). I figure that we can easily meet our emergency fund goal by April while maxing out our 2005 Roth contributions AND still meet our 2006 Roth maximums by the end of 2006.

I think this makes the most sense in our particular situation and I am not advocating that others stop their 401(k) contributions simply because an employer doesn't match (I have been maxing my 401k for years with no matching whatsoever). I feel I am simply temporarily shifting my savings priorities to build a more stable financial foundation that suits our circumstances. But even though I am convinced this is right for us...I am still interested in what others think!

Care to weigh in?


  1. Caitlin -- I'm behind this decision 100%.

    But I could have sworn you were 38. Could you check with Lala?

  2. I promise I am 37 ;) LaLa will turn 37 in about 4 weeks. I won't be 38 until August.

    I think I felt 38 today though...

  3. FWIW, I like having 3 buckets to invest in. One for short term, intermediate term, and then long term. I think you're doing the right thing. I think it's a good feeling to know that you have some cash available for emergencies or for some intermediate term expense (a new car, for example).

    Index funds are highly tax efficient and normally low expense, too. Except for that one in your 401(K) plan. GEEZ!!!

  4. As long as you are maxing out your Roth (as using a happier index fund than your 401k beast), I think your decision makes sense.

    For your 401(k), you're not talking about your Solo 401k right?

  5. Our intention is to do the max Roth each year (that is now a higher priority for me than tax-deferred, but hopefully i can do both). We are still finishing our 2005 roth and will have those maxed by tax day at the absolutely latest. We'll start the 2006 contributions as soon as 2005s are maxed with the intention of completing 2006 contribs by the end of the year.

    My 401k is just the standard kind, LaLa is the one with the Solo 401(k). After she has contributed about a third of our emergency fund, she will switch to contributing all her net income to her 401(k). All the while continuing the Roth contributions.

    That's the plan :)

  6. Tough decision. Given what you've said about your company's situation, an emergency fund sounds like a good priority, but you're exposing yourself to more of a tax hit, and losing some potential investment gains (maybe, can't remember exactly what you said about how you're holding the emergency money but just figure if it's liquid, it's earning less?).
    I guess one way to look at it is that it is a 100% certainty that you will retire someday and need money for that, but the probability of having an emergency is some unknowable number that is lower than that. So personally, I might stick with the 401k... but I understand the desire to have easily accessible cash, and you can always resume the 401k contributions when you feel more comfortable doing so. Either way, it's not like you're deciding to cash out your retirement and blow it at Foxwoods. You'll be ok either way.

  7. I am not sure if you considered this or not, but you might have some tax consequences by discontinuing your 401k contribution. You fund the 401k with pre-tax dollars, so if you are maxing out your 401k, then you are reducing your AGI significantly. You may still find that it is worth it in other ways, but the seemingly large 1.4% expense fee on the fund won't seem like too much if it causes your takes paid to go up by more than that!

  8. That is an excellent point, and I DID do a thorough analysis of the tax implications (well, to the best of my ability) before pulling the trigger.

    It's such an excellent point I'm inspired to write a whole post about it ;)

  9. Pepper's right, I'm 38. And LaLa is NOW 37 and will turn 38 in a couple weeks (Jan). I lost a birthday. Or a year?


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