Which Investment Account Should I Use? 401k vs Roth IRA vs Traditional IRA vs HSA vs 529 Plan

Hey what's up everyone and welcome to the School of Personal Finance. So in today's video I want to cover a topic that I am asked about all the time. The question goes like this, I only have so much money that I could save for all of my different goals, for retirement, for my kid's education, for my health care. What are the best accounts and how should I prioritize them when it comes time to saving? And of course the answer is it depends. There are so many different factors that go into this decision. So in this video I'm going to try to break it down for you, make it simple so that you can decide which one is the best for you. All right let's get to it. All right so real quick before I start, I mentioned a few weeks ago that I was in the beginning stages of starting a membership site where I could help people who maybe traditionally wouldn't be able to afford a financial advisor or they might not meet their minimum requirements or they feel like they just don't have enough money to go ahead and hire a financial advisor. But those are typically the people that need them the most. So I'm going to start this monthly membership site where I could be your coach, your mentor, all for one low price. If you're interested in learning more about that go over to schoolofpersonalfinance.com and check it out. It's not up and running yet but I'm putting the pieces together. You can also email me at rich at schoolofpersonalfinance.com. Let me know you're interested and I'll keep you in the loop as I progress and roll everything out. All right so I'm going to go right through the list and I'm going to tell you what you should be thinking about, what you should be considering, the pieces that you should be trying to apply to your own life so that you could decide which way is best for you. And first I just want to say that before you even think about starting to save in these different types of accounts you have to make sure that you have an emergency fund, that you have cash in the bank if something were to happen to you. And you also have to make sure that you don't have any bad debt, any high credit card debt. You don't want to be paying 20% interest on credit card debt and worrying about putting $200 every two weeks into your 401k. You need to attack that high interest rate debt first before you even start thinking about saving in these other types of accounts. All right so the first one if you have a 401k at work and you get an employer match then that has to be number one on the list of where you should start saving for retirement. Now if you do not have a match then it is going to fall down the list. So for number one it is only if you have an employer match inside of your 401k. So that brings another question should you be contributing to a Roth 401k or a traditional 401k and that depends on your tax situation. So if you are in a very low tax bracket like the 10 or 12 percent tax bracket then I recommend that you contribute into the Roth 401k. Now again we are only talking about contributing up until the point that you get the match. So you contribute say they match the first five percent. You contribute five percent goes into the Roth 401k. Their five percent match is going to go into the traditional 401k. So you are going to have two different types in there that will grow for retirement. It gives you tax diversification. It gives you options when you are in retirement where you want to pull the money from depending on your tax situation. But if you are in those low tax brackets go with the Roth 401k. If you make a lot of money and you are in the higher tax brackets you are going to be better off getting the deduction now and doing the traditional 401k getting the tax deduction. So now your contribution plus the employer match is all going to go into the traditional portion of the 401k. So in retirement it will all be taxed when it comes out. But if you get the match that is where I want you to focus on first. Take full advantage of the match. That is going to be numero uno. All right and now in the number two slot I am throwing the health savings account the HSA in the number two. And remember if you do not get a match in your 401k at work then I am throwing this in the number one slot. And this depends on a few different factors. So I did a video a couple weeks ago all about HSAs. I am going to put a link in the description below. Make sure to check that one out if you have not watched it already. But you need to have a high deductible health plan in order to qualify for the HSA account. So the reason that it is in the number two slot is because you get triple tax advantages by using an HSA for retirement. So it is better than the Roth. It is better than the traditional IRA. But the caveat is you have to use the money for health care expenses. But you could save the receipts. Not use them when you actually incur the health care costs. Save the receipts and then take the money out at any time in the future. Just as long as you take the amount that you have saved up in receipts. So in that instance you could take it out before retirement. There are no penalties. You could take it out five years from now, ten years from now. If you save receipts for the next ten years and you have $20,000 of receipts you could take a $20,000 distribution from the HSA and use it for something completely different. So it is a great way to save for retirement for the long term. You have to invest in it. But that is why I am putting it in the number two slot. All right and then three and four I am going to do at the same time because they are kind of interchangeable and it depends on your tax situation. So now just to take a step back and say all these types of accounts the reason that you contribute to these are for the tax benefits. So the reason you use a 401k, the reason you use an HSA, IRAs, 529 plans, any of those, it is for the tax benefits. You either get a deduction going in, you get tax-free money going out, you get tax deferred growth going through. They all have their different rules and quirks and things but the reason that people use these accounts are for the tax advantages. So three and four it is either a Roth IRA or a traditional IRA. And for me personally I like the Roth IRA better. It has more flexibility. I like the idea of having tax-free retirement income in retirement. Now I also did a video comparing those two which I will put a link down in the description as well. Comparing the traditional IRA versus the Roth IRA. So I will not go into detail in this video but I like the idea of doing the Roth IRA but it really does depend on your tax bracket. Another big advantage with IRAs are the investment options. You have access to very low cost index funds. You can buy individual stocks, bonds, mutual funds, ETFs, the world is your oyster compared to like a 401k plan where you are held hostage to whatever investment options your plan gives you. And you might have some high cost crappy investment option. For 2020 you can invest $6,000 into either a traditional or a Roth IRA. And you can even mix and match. If you want to do $3,000 into a traditional, $3,000 into a Roth, you could do that as well. But you have to be aware of the income limitations also. So if you make too much money you might not be able to take a deduction for the traditional IRA or you might just be completely phased out of being able to contribute to a Roth IRA. So you have to look at the income limitations before you go ahead and contribute to these types of accounts. All right so here's where we stand so far. So 401k, you get a match, you're going to contribute to make sure that you take full advantage of the match. Once you do that then you start moving down. Then we go to a health savings account but only if you have a high deductible plan. If you don't then you can't do the HSA. Then you start going to the IRAs. Depending on your income and on your tax brackets you'll either contribute to a traditional IRA where you get the tax deduction now or you'll contribute to a Roth IRA where there's no deduction now but it grows tax-free forever and it comes out tax-free. I also did a video of why I love my Roth IRA. I'll put a link in the description to that as well. You should definitely check that one out. I think it was a little over a year ago that I did that video. But that's where we're at right now as far as where your money should be going. Now you might be tapped out already. Once we get to this point you might say I don't have any money left and if that's the case then maybe you do break it down a little bit because maybe you want to invest some money into these next couple options that I'm going to be going into. So you don't have to do the whole thing. You don't have to max out the HSA before you start contributing to your Roth IRA or your traditional IRA. Maybe you split it a little bit. All right and now number five and this one totally depends on your situation in life and that is a 529 plan for college savings. Now you can use these on yourself if you're looking to go back to college. You can save in the 529 plan and you'd be the beneficiary of it. But for most of us we're using these to save for our kids college education. They do keep widening the scope of what you could use these 529 plans for when it comes to education. So like I was lucky with my oldest son. He was born in 2007. So when I started saving in his 529 plan I mean that was right before the great recession and the market started tanking. But I had you know basically a decade of growth after that where his 529 plan has done really well. So the benefit of the 529 plan is that that money it grows tax-free. So all the growth that I have in his 529 plan as long as I use it for qualified expenses then I'm not going to pay any taxes on that money. No taxes on the growth. No taxes on the distribution. So that's the reason that people use 529 plans. And here in New York we also get a state tax deduction. So when I make contributions I get a New York state tax deduction up to ten thousand dollars if you're married or five thousand dollars if single for contributions into the 529 plan. And those are the reasons that people use these types of plans for the tax benefits. The tax deductions. The tax-free growth. The tax-free withdrawals. And it makes sense. It works out. So if you have extra money after all of these things that you're already saving in then a 529 plan it is the best way to save for your kids education. And you could change the beneficiary on them. So if my son ends up not going to college I could change. I could use that 529. Change the beneficiary to my daughter and use that money for her. So it is flexible with that. So they are a great way to save. I did a video a while back on the benefits of 529 plans as well. I'll put a link in the description below. All right and now number six which could very well be number five for you depending on your priorities or if you have kids or not. But that is going back to your 401k and trying to max that thing out. And now when I say 401k I also mean 403b or 457 plan. Any employer sponsored plan. So hopefully you have good investment options like with a lot of 403b plans the investment options stink and that's why it falls down so low on the priority list. But hopefully you don't have very high cost options and you have good index funds to invest in inside of your 401k. All right so now at the end of the list here after you've maxed out all of these accounts you have nowhere left to save to get any kind of tax advantages. Then you go to what's called a taxable brokerage account. And honestly I'm a fan of taxable brokerage accounts even though you're not getting any tax benefits with it. So you don't get a tax deduction for putting money in there. You don't get any money out tax-free. You have to pay taxes on dividends and capital gains when you sell. Like if you buy a stock if you buy apple stock in there it grows a lot you sell it you have to pay capital gains tax if you held it for longer than a year. So there are taxes that are involved in that and there's no tax benefits. But the big advantage is that it's liquid you have access to it. So if you want to sell out of something and take some money out you have options you have flexibility and it's just another good way to save. So I call these taxable brokerage accounts I used to joke around and say these are like midlife crisis funds because you could take it out you know in your 40s when you're having a midlife crisis and not pay a penalty. So it's harder to get access to IRAs, 401ks, 457s, 403bs. You have to either take a loan or take a hardship distribution. It's hard to get access where with a taxable brokerage account you could just sell out of your positions and transfer the money to your bank account if you need to spend it or you need to use it to survive for a little while. So taxable brokerage accounts last one on the list but I am a fan of them and I do think that you should allocate some money there. Alright everyone that is it for this one. Please make sure to hit that like button if you got value out of this video. Hit that subscribe button if you are not part of the community as of yet. I post new videos every Friday all about personal finance and helping you become great with money. Check out schoolofpersonalfinance.com. I will see you again next week. Thanks a lot. Bye.