After the first few articles on this subject, I hope you feel more comfortable with understanding and planning your financial choices with Mutual Funds, in your pension plans and investment accounts. One of the major things you have to think about is your tax situation. This is affected by your income and family situation. You need to know and plan your tax rates or brackets which I will discuss here. The next major thing you need to understand is your personal level of risk. And the third is what opportunities you have to invest for the most return with respect to your tax situation and your level of risk.
To calculate your income tax rates, get out your tax returns and on the Federal 1040A or 1040 second page you will see two lines. The first one will be labeled “Taxable income” line 27 on the 1040A and line 43 on 1040, which is after all deductions. Your tax amount is the next line 28 on the 1040A, 44 on the 1040 labeled ‘Tax”. Divide the Tax number by the Income number and you will get your tax rate in a decimal. Multiply it by 100 to make it an easy percentage. This tells you how much the Federal government takes out of each after deductions income dollar.
For New York State and City you would use your IT-201 and line 37 for Taxable Income and line 61 for the total of NYS and NYC taxes. Again divide 37 by 61 and multiply by 100. Now you will know the actual tax rates you pay to our governments. These figures will help you and your family members choose which type of IRA’s to invest in and what types of funds in Investment accounts besides your pension choices.
Traditional IRAs give you a tax break now on up to $5500 per year per person (unless you’re over 50 then its $6500 to catch up) and Roths give you NO tax break now but when you’re 59 ½ and have one invested for 5 years there is no tax due ever and you don’t have to take money out ever. In Traditional IRAs you have to start taking money out the year you turn 70 ½ and will pay taxes on it depending on your total income then. Knowing you tax bracket or rate now will determine which you should invest in for the best net return. If your tax rates are low now (Federal under approx 20% and NYS/NYC under approx 5.0%) it would make sense to invest in Roths since your tax savings will be low now, but huge later if ever. So young people starting out, or others with lower income jobs should always consider Roth IRAs. You can have both types as your income changes but the maximum yearly limit is for all of them together.
At your jobs with pension plans you should see Target or Lifetime Mutual funds as a choice in your 401, 403 or 457 plans. These plans automatically move money during your lifetime from Stock funds to Bond funds based on your age and expected retirement date. You have no choice where the money is invested but the expenses are low and it replaces your decisions with theirs which are computer formula (algorithm) decided. You should talk to your Tax Preparer about your choices if you use an Accountant who handles investments. The benefits people at your job will offer little advice beyond pamphlets or online sites. I will provide more steps in the next issue.
Please meet with a licensed financial advisor to determine the best course of action for you as an individual.