Reader Case Study - PFR Increased Income

[StammesOpfer]

I'll be the first to try this.
In the last year we finally paid off the credit cards and built an emergency fund. Here is where we are.

Age = mid-20's Male
Marital Status = Married
Income = $55k (military only $35k taxable)
Income Spouse = $62k (new income)
Residency = Nevada (no state income tax)
Expenses = $4k/mo budgeted

Assets

• Emergency Fund = $13k
• Checking = $500
• Savings = $2.5k
• Roth IRA = $6k - 2050 target fund (URFFX)
• Roth IRA Spouse = $5.5k - 2050 target fund (URFFX)
• Home Value = $195k
• Car 1 = $7k
• Car 2 = $25k

Liabilities

• Credit Card Debt = No revolving debt (only MS and budgeted expenses)
• Mortgage = $136k
• Car loan = $22.5k

Goals

Trying to figure out what to do after I max out our IRA's.
Is Roth IRA the right move still? considering our increased income.
Is there an advantage to doing something other than a target date retirement fund. I don't want to have to be too involved in it. I can re-balance every now and then based on percentages but not looking to choose stocks.
Keep spending like we are ($4k/mo expenses budget includes all our fun money).
Someday buy a piece of land and build a house.

I have access to military TSP (Thrift Savings Plan = Government 401k-ish).
My wife does not currently have access to a 401k she may soon and no brainer will be to at least contribute enough to max out employer match.


Risk Tolerance/ Financial Savvy

I am not afraid to take a risk as long as it is a smart calculated risk.

If the market dropped 20%. I would lean towards doubling down and buy while the market is low.

 

[pstlb]

I like your last part. You and Warren Buffet: when others are fearful be greedy. I lost a LOT in 2008-09, but then I doubled down, made it all back and then some, actually quite a bit of "some." It sounds to me like you're really on the right track, and at an early age. I can't offer an financial advice, but you have positioned yourself to be able to secure your future. Keep it up!

 

[Matt]

Hey Stammes,

Thank you for your service. I respect the hell out of people who pick this path.

It seems to me from your post that an important question you are tackling now is opting to defer current taxes vs having tax free income in retirement. To an extent this is a personal decision, as it is hard to decide which route is best since nobody knows the future.

One thing I bang on about is the rule that we can move from A>B but not B>A. Where A is Tax Deferred (401k or TSP) and B is Roth. As such, I look at deferring as more powerful than opting for tax free. It is an increadible over-simplification, but the fact is you can't opt to roll a Roth into a 401K and reduce taxes.

The strategy is simple. You assign money into tax deferred accounts when earning, and roll them off when not earning. If you look forward towards your retirement, you should consider if you should ever leave your current position and perhaps have the opportunity to build something new, that takes an income drop. Examples of this would be:

• Starting your own business
• Going to college

So if you ever see yourself exiting the service before retirement age, and may take a year (or years) to reposition yourself, deferring today can be great, and when you are transitioning you use the opportunity to move your assets from the TSP/401K into the Roth. The way this works is that you declare the rollover amount as income, and since you reduced your income when earning 55K plus 62K, if you are now a student or whatnot, your tax rate drops dramatically from that, and you capture the balance.

My vote is to lean towards tax deferring today, and figuring out the Roth 'tomorrow' note that the TSP has very attractive fee structures and is a great option. If you go the TSP route the L plan is a good option for no hassle investments.

Regarding Target Date funds. Yes they are perfectly fine. The only suggestion I would make for these is that you should drift the date beyond your actual retirement date. EG if you are buying those 2050 funds you should be hitting 65 in 2038 or so. The logic here is that the target date funds are a bit too conservative and move you into bonds and then cash too soon.

I like your risk tolerance, but would ask you this... how would you double down, where would the money come from? Note that it would have to go into a taxable account based on your current allocations.

 

[StammesOpfer]

Thanks Matt for the detailed response. Tax deferred makes a lot of sense now that our taxable income has nearly tripled. Good to know that the target date funds tend to be overly conservative.

As far as doubling down, well it wouldn't truly be "double" but I would probably lean out our "fun" fund temporarily and put that into the market. Why don't I do that all the time? I think for long term happiness my wife and I aren't willing to live on a shoe string for a long period of time. However for a shorter period of time to maximize a large market change I would reallocate. I would reduce payment on car to minimum payments to allocate more to investment. Also depending on how I feel about things I might even move some of my cash into the market and then rebuild my cash reserves over time. Depends on how secure I feel in my career at the time.

 

[Matt]

What APR is on that $22.5K car loan? I might be tempted to throw some of the emergency fund at that too...

 

[StammesOpfer]

Loan is 1.99%. For the emergency fund I am using a couple Mango 6% accounts so I think that is the right move unless someone has another thought.

 

[Matt]

Loan is 1.99%. For the emergency fund I am using a couple Mango 6% accounts so I think that is the right move unless someone has another thought.

Sounds good.