Matthew Amster-Burton, a MintLife personal finance expert, is answering retirement questions straight from the Mint.com Facebook page. See what he has to say about using retirement savings to purchase a home and how young students and part-time workers can start saving for retirement now.
Q: I’ve heard that I can use retirement savings towards purchasing our first home. Is that true? If so, is it a good idea?
Every week, I like to tune into Marketplace Money, public radio’s personal finance show, for the listener call-in segment. For me, it’s an interactive experience, kind of like The Rocky Horror Picture Show, because I know that sooner or later a caller will say, “I’m thinking about taking some money out of my 401(k),” and the hosts and I will groan, “Oooooooooh, don’t do that.”
Of course, few things in life are so simple that they can be reduced to an extended groan. There are two reasons personal finance types break out in a rash when you talk about raiding your retirement savings:
1.) You might have to pay a substantial penalty and extra taxes on the withdrawal.
2.) You put that money aside into a box marked “retirement,” and it’s promised to your future self. Are you sure the thing you want to spend it on is so important that it’s worth breaking your word? Will breaking into the box this time make it easier for you to do it again, until there’s nothing left?
Wow, that was dramatic. Only you can answer the second question. As for the first problem, there are a few ways to use retirement savings to buy your first home without paying a penalty. The details depend on what kind of retirement account you want to raid.
401(k): Some 401(k)s let you withdraw (you still have to pay penalty and tax) for a down payment. Some don’t. It’s entirely up to your employer. You’re better off taking a 401(k) loan (up to 50% of your balance or $50,000, whichever is less) instead, as long as you’re able to pay it back on schedule.
Traditional IRA: An individual can take $10,000 out of your traditional IRA for a first home purchase and a couple can withdraw $10,000 each. As with the 401(k), you’ll pay tax but no penalty.
Roth IRA: You can always withdraw Roth IRA contributions (but not earnings), with no penalty or tax. If you have a converted Roth, it gets more complicated and you’ll have to refer to IRS Publication 590.
Q: What are some ways college students and part-time workers can save money for the future without bankrupting themselves? What are some good investments and how do I know which ones are best?
The best thing to do with your money while in college is to avoid student loans as much as possible. Investing while you’re still taking out student loans is like borrowing money to buy stocks, which is a good way to have your own private financial crisis. You can start investing after you graduate and get a job. I’m crossing my fingers for you and the rest of the economy.
Let’s say you’re one of the lucky ones and your parents are paying for college, or you got a scholarship, or your part-time job covers your tuition and living expenses with a little money left over. If you want to get started with investing, here’s a three-step program.
1.) Read a book. My favorite investing book is Elements of Investing, by Burton Malkiel and Charles Ellis. It’s short, jargon-free, and assumes you’re starting from square one.
2.) Open a Roth IRA. A Roth IRA is the perfect retirement account for a college student and because most students pay no federal income tax, you can put money in your Roth and never pay tax on it, no matter how much it grows. How often do you get a deal like that? Also, because you can withdraw your contributions from a Roth without penalty, it can act as a backup emergency fund. (You have one of those, right?)
3.) Automate. If you have to make a manual contribution to your retirement account every time you get a paycheck, you’ll always find a reason to put it off until next paycheck. Instead, set up automatic paycheck withdrawal or an automatic transfer from your checking account to your Roth IRA.