Can I Contribute To Both A 401k And An IRA?

I just had the question asked: "Can I Contribute To Both A 401k And An IRA?"
What a great question. This means you are trying to put some serious money away. I congratulate you for that.


The resounding answer is YES! The ultimate question, though, is can you deduct the entire contribution to the IRA. If you are single and your company offers a 401k or other type of retirement plan, you can still contribute $5,000 to an IRA or up to $6,000 if you are 50 or older. If your Modified Adjusted Gross Income, or MAGI (for most people this number is similar the the Adjusted Gross Income, which is the number on the bottom of the first page of your tax return) is less than $55,000 then you can deduct the entire $5,000 or $6,000 (50 or over) contribution amount. If you earn over $65,000 you can't deduct ANY of the contribution (although you can still contribute). The gray area is when your MAGI is between $55,000 and $65,000 for 2009. There is actually a formula that will help you determine how much of your contribution can be deducted when your income falls within this area. It is:

Example: If you're single the "Highest dollar limt of MAGI range" is $65,000subtract your MAGI from this, let's say it is $60,000. Next, the contribution limit is $5,000 (under 50). The last part of the equation is "Highest dollar limit of phase-out range" which is $65,000 minus the "Lowest dollar limit of phase-out range" which equals $10,000.

This breaks down to: $5,000 x ($5,000 / $10,000) which equals $2,500.

This formula seems compicated when you look at it but it is quite simple. If we are half way between the beginning and end of the phase out range (MAGI is $60,000 when the bottom and upper limits are $55,000 and $65,000) then half of your contributiion can be deducted. If you were a quarter of the way into the phase out then you could deduct a quarter of your contribution amount.

This all gets a little more complex when you are married. Variables are if you and both your spouse work or not, if each spouse has a retirment plan at work and such.

I continually stress to people who are maxing out their retirement contributions: "Make sure you are doing the best thing for future taxation". It may be better to put money into a Roth and your 401k instead of an IRA and 401k.

Til later,

John

When Can I Take Money Out Of My 401k?

The easy answer is at age 59 1/2. Most people who ask this question ask it because they don't want to pay a penalty to the IRS for early withdrawal of their 401k. What most people don't know is a small part of the internal revenue code (section 72t) that allows them to take money out of their 401k PRIOR to age 59 1/2.

Have you ever wondered how someone can begin taking a pension prior to age 59 1/2 without penalties? Well section 72t allows you to take money out of your 401k prior to 59 1/2 if you make the distributions look like a pension plan. Your next question is probably "how do I do that?"

It isn't very difficult to follow the rules set forth by section 72t. Basically your distributions must be similar in amount and frequency and you must continue taking them for a minimum of 5 years. Your 401k administrator can give you exact details and will help you conform to these rules.

Congratulations on saving well for retirement. If this conversation interests you then you must have been diligent in your putting money away and managing it.

How Much Can I Contribute To My 401k?

In 2009, those under 50 years old can contribute a maximum of $16,500. If you are 50 or older that increases another $5,500 to a total of $22,000.

An equally important question should be "How should I have the money invested within my 401k?" People over the age of 50 who have accumulated a sizeable 401k balance (usually their largest single investable asset) have experienced tremendous volatility. They have lost between 30% and 50% two different times in the last ten years.

Many are looking for ways to protect what they have already saved while not giving up the potential of growth during good market periods. Friends and acquaintances who know I own a Registered Investment Advisory service ask me all the time "How should I have my 401k invested?" My answer is that my answer will change over time. Today the market might require one type of allocation while a down market will require a completely different allocation. If this friend or acquaintance doesn't see me after my allocations have changed, then they may sit on the wrong allocation during a down market and lose as much as everyone else. Because of this, I will only give advice to people who will follow my recommendatins on a regular basis.

It makes sense to be invested during an up market and be in cash during a down market, right? Who wouldn't want their account to always go up? Obviously it isn't that simple. You must develope a system to tell you the probability of what is to occur next. I have been in this industry since 1992 and have found that tracking cycles (waves) in the market makes the most sense. Cycles occur in everything on this earth. The weather works in cycles, tree rings are in cycles, even the Presidential election creates a 4 year cycle. I have software that runs daily checking to see what the long term and intermediate term cycles are in the market and where we are within them. This has been a wonderful way to decrease risk to 401k accounts while not limiting upside potential.

For more information on this process, go to www.eWatch401k.com

A Newsletter from Dec. '07

The objective of managing your investment account should be: Don't lose in down markets so it is easier to gain in Up markets. The Bible refers to this as "Occupation". You protect what you've already gained and then go out to get more. Militarily you are to never give up what you've already conquered on the promise of gaining more in the future.

Following is a newsletter I sent to my clients in December of 2007, which was near the top of the market. I was notifying them we were going to begin a conservative approach because I thought we could be moving into a recession.

The Market. . . According to John

No Short Term Views

The market was in an overbought condition last week, but the latest pullback has fixed that. At this point, the next short term move is a toss-up. This suits our hedge position perfectly. Yesterday, for example, the Dow was down over 170 points. Most of our acccounts, however, were pretty close to break-even. Today, the market was slightly up, but we enjoyed a very nice increase in account values.

Why hedge? When the market hasn't shown a clear sign what it is going to do next, it would be nice to have positions that will do BETTER than the market if it advances. Since it may also go the other way, it would be nice to have positions that will make us money there as well. By effectively buying positions that help offset each other, we are taking a "Market Neutral" stance. If we are lucky enough to do it right, in an increasing market, our out-performers will beat the market enough that they will pull our hedge positions along well enough to at least match the upward return of the market.

If the market decides to go south, our hedge positions will increase in value and hopefully our stock positions won't go down too dramatically, thus decreasing our overall account value less than the market declines. Properly executed, our hedged portfolio should give us major market return with substantially decreased volatility. The perfect answer for a time when the market is giving us no short term direction.

Intermediate Term: Down

An ominous scenario is potentially setting up. If the market decides to pull back further and break the lows it just set a couple weeks ago (remember the last low broke the lows set this summer) and then immediately spikes up 200 to 400 points -- then look out. This is the pattern that historically has preceeded crashes. I have no idea if this will follow through, but I will definitely be watching.

In the end of November, the Dow broke a major support level before bouncing back (see #1 in Figure 1). The piercing of this major support level changed our long term trend from positive to negative. Now, we would expect any upward movements in the market to top out lower than the high of the last upward movement (notice last top in Figure 1 is lower than previous top). On the same hand, the next low should be lower than the last. Lower highs and lower lows are the definition of a down trend.

Figure 1

Let's look at how the Dow acted through the last recession and compare how it is setting up now. Figure 2 shows how the major lows consistently broke below the low prior to it. These are numbered from 1 to 7. The highs were initially trying to go higher, but were turned away at the previous highs. Eventually they began to top out lower than the previous highs.

Figure 2

Recession Watch

Partial reason for the nice bounce off the support levels last week were news from the Fed. They hyped further liquidity to the financial markets by buying back $40 billion of treasuries (known as "repos"). Unfortunately, the rest of the story is that these were coming due anyway this week. $39 billion of repos were due and will be simply getting a different maturity date. The market finds this out and we get a couple major down days back to back. We've heard the heralding of hundreds of billions being pumped into the market to prop up the ailing financial system. In all reality, only about 18 billion has been added.

The Fed is doing us a great disservice. They are inflating our currency at rates that haven't been seen for 30 years. This results in DECREASING it's value. This causes the economic hangover to be worse when they slow down the inflating process. The opposite of inflating is depressing. Yes, depressions are the natural product of wild, out of control periods of inflating. Historically, the Fed won't let the cycle take it's full course and it will begin inflating again before a full blown depression occurs, causing a mild depression or "recession".
Where do we go from here?

I truly believe we will be taking off long positions soon and replace them with further shorts such as SKK, SKF and MZZ.

Small/Mid Cap Component

The small/mid cap component represents half of our 401k management program. The above returns represent the return you would have experienced in the Fidelity Low Priced Stock Fund had you not used our system vs. if you DID use our system. The period of time represented is the top of the market in Oct '07 until today, Oct 7 '09.

The way our system works:

• Determine which investments in your 401k represent the small / mid cap asset class.
• When we let you know the market is good, invest half of your 401k into one or more of these funds.
• When the status of the market changes, we will notify you. At this point you would switch the small/mid cap funds into the money market.

The entire idea is to protect your 401k in bad markets and capitalize in the good markets.

This system has done exactly that. You don't have to wait years just to break even after a bad market. This system allows you to exercise good judgement as it pertains to your 401k.