9 Ways to Retire Richer
Saving Strategies 5-9
5. Play it safe with target funds.
One alternative to allocating and rebalancing is to forgo mutual funds and choose a single target fund. Offered by many 401(k) plans and IRAs, target funds don't invest in stocks, bonds, and Treasuries; instead they buy other mutual funds and are designed with a particular time horizon in mind. If you're 50 and expect to work 14 more years, for instance, you can get a target 2025 fund; if you're 40 you'd get a target 2035 fund. They automatically rebalance themselves to become more conservative over time based on target dates. But be aware that some target funds use fairly aggressive strategies. During the worst of the 2008 stock plunge some 2010 funds -- which should have been very conservative given the closeness of their target date -- were down 40 percent.
Simple Rule of Thumb: If your mutual fund company offers both aggressive and conservative target funds, choose the latter, says Salisbury. Otherwise, pick one designed to mature earlier.
6. Judge funds by fees, not past results.
Most investment brochures warn that "past performance does not guarantee future results." So ignore the past performance numbers and focus on the one stat that is sure to impact your returns: cost. Funds with low expenses tend to have the best performance over time, according to Christine Benz, director of personal finance at the investment research company Morningstar. Choose no-load funds, which don't charge fees for the right to buy, sell, or hold them, as some mutual funds do. They do have management costs, however, and when you're comparing similar funds look at their fees, which are listed in the plan paperwork as a percentage of assets. (One international growth fund might charge 2 percent while another wants 0.5 percent.) The lowest-fee funds, and probably the best bet for most people, are index funds, which simply mirror a stock or bond index, such as the S&P 500, and thus have no high-priced management team, bringing annual costs as low as 0.2 percent or less. They outperform most managed funds anyway.
Simple Rule of Thumb: Choose funds on Morningstar that have a top track record. You can see a free rating (from one to five stars) of any mutual fund based on its fees, strategies, potential returns, and risks at morningstar.com.
7. Prepay the mortgage.
Paying off your mortgage, or any debt, as fast as possible is one of the best ways to plan for retirement, says Salisbury. After all, if you wipe out your mortgage before you retire, you eliminate your largest monthly expense. And with savings account interest rates at historic lows, you'll get a much better return by putting extra cash toward the mortgage anyway.
Simple Rule of Thumb: Adding about $100 to each monthly mortgage payment will knock five years off a 30-year $200,000 loan -- and save you almost $50,000 in interest, too.
8. Add a Roth if you can.
Thanks to ballooning national debt, many experts predict significantly higher tax rates in coming decades. That makes Roth 401(k) and IRA benefits better than ever, says Salisbury. With Roths you trade a tax benefit now for one when you retire: Rather than writing off annual contributions, as you do with a standard IRA, or contributing pretax dollars, as with a standard 401(k), you get no tax advantage in the current year. But when you make withdrawals after retirement you'll pay no taxes. Since tax rates may be more onerous then, that could be a better deal.
Simple Rule of Thumb: Put as much of your retirement contribution as possible into a Roth. Many 401(k) plans now allow Roth contributions; if your adjusted gross income is less than $120,000, or $167,000 for a married couple, you can put up to $5,000 (or $6,000 if you're over 50 years old) into a Roth IRA.
9. Buy long-term care insurance.
The biggest financial risk we all face as we age is the potential need for long-term care. It might be a visiting nurse, an assisted-living facility, or a nursing home -- all of which are extremely expensive. True, you can get Medicaid to pick up the tab, but only for limited care options and often after you have to liquidate and turn over all your assets. Alternatively, long-term-care insurance can defray the cost, giving you choices in the care you receive and protecting your assets, says Kim Holland, insurance commissioner for the state of Oklahoma. Look for a policy that offers inflation adjustment so that your coverage amount will go up as medical costs escalate, and confirm that the issuer will be around to pay by checking its financial strength with the ratings agencies S&P (standardandpoors.com), Moody's (moodys.com), A.M. Best (ambest.com), and Fitch (fitchratings.com).
Simple Rule of Thumb: If you can afford to, buy a policy while you're in your 50s. It can cost a whopping $150 to $400 per month, but if you wait until your 60s, you'll pay about $200 to $600 a month -- and if you get sick in the interim you may be denied a policy.
Originally published in Ladies' Home Journal, December 2010/November 2011.