What Obama's myRA Plan Could Do for You

Obama State of Union
Saving for retirement is an essential part of ensuring your financial security after the end of your career, but millions of Americans have struggled to put money aside for after they retire. In his State of the Union speech, President Obama announced the myRA retirement savings program, aimed at helping people save more even if they don't have much income.

The fact sheet from the White House on the program didn't include all the details about how the myRA will work, but here's what we do know: The intent of the program is to help those who don't have access to retirement plans at work.

According to the administration, about half of American workers don't have 401(k) plans or other employer-sponsored retirement plans, making it much more difficult for them to set money aside for retirement. The idea of the myRA is to bridge that gap and give workers without 401(k) access the same easy way to save.

How the myRA Works

The basics of the myRA are simple: Anyone in a household earning $191,000 a year or less would be eligible to use myRAs, with an initial investment of as little as $25 and additional ongoing contributions of as little as $5 coming from payroll deductions. As the fact sheet explains, the idea is to offer a "starter savings account" that takes away the obstacles that prevent many Americans from starting to save for long-term goals like retirement.

One key feature of the myRA is that it won't be tied to a particular employer. As a result, if you change jobs, you won't have to worry about making any changes to your myRA. That's a potential advantage over 401(k) plans, where employees have to take steps to roll over accounts from former employers and often fall into tax traps that lead to penalties and higher taxes.

Safety and Security -- But Low Growth

Unlike 401(k) plans and other retirement investments, the myRA isn't designed to give savers multiple choices about how they want to invest their savings. Instead, the myRA emphasizes safety and security, with investments that the government will guarantee never to go down in value.

The interest rate on your myRA balance will be based on what federal employees receive as participants of their Thrift Savings Plan retirement account, which is invested in the Government Securities Investment Fund, also known as the G Fund. According to the Thrift Savings Plan website, the return on the G Fund in 2013 was 1.89 percent. In the five years ending in December 2012, the G Fund paid an average annual return of 2.69 percent.

That safety and security comes at the price of growth.

Even if myRA interest rates rise to 3 percent, it'll take almost 24 years for you to double your money using the myRA as your primary savings vehicle. By contrast, the Thrift Savings Plan's L 2050 Fund, which invests more aggressively and is designed for those planning to retire in or around the year 2050, had returns of more than 26 percent just last year alone.

Of course, those gains came from the stock market's strong performance, and when stocks do badly, those funds can lose money. Several of the TSP's more aggressive investments posted big losses during the down market in 2008, ranging from 37 percent for the C Fund to 42 percent for the I Fund.

A Piece of Your Plan, Not a Substitute For One

Fundamentally, the limits on the myRA mean it won't come close to covering your retirement needs -- and it's not meant to. The accounts will hold only a maximum of $15,000. For most people, that wouldn't be enough to cover even a full year of living expenses in retirement. What it's intended to be is a stepping stone. Once the amount in your myRA maxes out, you have to transfer the balance to an IRA.

On its own, it's not that much. But If it encourages more people to start taking meaningful steps toward investments like Roth IRAs and other retirement-appropriate plans, the myRA could represent a long-term victory in the fight to ensure American retirees greater financial stability.

6 Costly Retirement-Saving Setbacks
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What Obama's myRA Plan Could Do for You

For the best chance of maintaining your lifestyle in retirement, aim to contribute 15% of your salary, including any employer match, to your 401(k) or other savings account throughout your career (see What's Your Retirement Number?). Most people fall short of that benchmark. The average employee contribution to a 401(k) is 6% to 8%.

Saving 15% may seem like lifting weights at the gym for several hours. Try it anyway, says Stuart Ritter, a financial planner and vice-president of T. Rowe Price Investment Services. "Kick your contribution level up to 15% for three months. At the end of the three months, you can lower it, if necessary." But rather than dipping back to single digits, go with 10% or 12%, he says. "People find they can settle on a much higher amount than they were contributing before."

Procrastination is another risk: With each year you neglect to save, you lose an opportunity to fuel your accounts and to let compounding keep the momentum going.

So powerful is the effect of saving early that you could have less trouble catching up if you take a several-year break-say, to pay for college-than if you wait until midlife to start. At that point, says George Middleton, a financial adviser in Vancouver, Wash., "the amount of money you have to put away can be ungodly."

Still, you can make headway, especially if your kids are grown and you have fewer expenses. Say you're 55, earn $80,000 a year and have nothing saved for retirement. You put the pedal to the metal by setting aside $23,000 in your 401(k) each year for the next ten years. That $23,000 combines the annual maximum for people younger than 50 ($17,500 in 2013) plus the annual catch-up amount for people 50 and older ($5,500). If your employer matches 3% on the first 6% of pay and your investments earn an annualized 7%, you'd amass $434,700 by the time you reached 65.

For some investors, a bad case of the jitters became a bigger derailer than the recession itself (see How to Learn to Love [Stocks] Again). "People got very nervous and became more conservative, so when the market came back up, they had less of their port­folio participating in the rally," says Suzanna de Baca, vice-president of wealth strategies at Ameriprise Financial.

You can get back in (and stay in) by investing in stocks or stock mutual funds in set amounts on a regular basis. Using this strategy, known as dollar-cost averaging, you automatically buy more shares at lower prices and fewer shares at higher prices-an antidote to market-driven decisions. Once you decide on your mix of investments, use automatic rebalancing to keep it that way, advises Debbie Grose, of Lighthouse Financial Planning, in Folsom, Cal.

Most financial planners recommend that your portfolio be at least 80% in stocks in your twenties, gradually shifting to, say, 50% stocks and 50% fixed-income investments as you approach retirement. But formulas don't cure panic attacks. "Set your risk at the level you're willing to withstand in a downturn," says Middleton.

Amassing hundreds of thousands of dollars for retirement is challenge enough, but parents are also expected to save $80,000 to $100,000 per kid to cover the college bills. In fact, half of parents don't save for college at all, and the average savings among those who do runs about $12,000, according to a 2013 report by Sallie Mae, the financial services institution. Faced with a shortfall, two-thirds of families say they would use their retirement savings to pay for their children's college education, if necessary.

Don't wait until your kid is 17 to discuss how much you'll contribute. Have a conversation early about how much you can afford to give, says Fred Amrein, a registered financial adviser in Wynnewood, Pa.

A Roth IRA can be one way to save for both college and retirement, although it won't get you all the way to either goal. You can contribute up to $5,500 a year ($6,500 if you're 50 or older) in after-tax dollars, and the money grows tax-free. You can withdraw your contributions for any reason, including college, without owing tax on the distribution. You will pay taxes on the earnings (unless you're 59 1/2 or older and have had the account for at least five calendar years), but you won't have to pay a 10% early-withdrawal penalty if you use the money for qualified higher-education expenses.

Leaving the workforce, even temporarily, deprives you of current income and makes it tougher than ever to save for retirement. You might even find yourself tapping your retirement accounts to cover day-to-day expenses. You'll owe taxes on distributions from a traditional IRA plus a 10% penalty if you're younger than 59 1/2.

The best way to avoid that dismal situation is to have an emergency reserve that covers at least six months or even a year of living expenses, says Jim Holtzman, a certified financial planner in Pittsburgh. He acknowledges, however, that "that's easy to recommend and hard to implement." Avoid further disaster by hanging on to health insurance: If you can't get coverage through your spouse, look into keeping your employer-based coverage through COBRA. You can extend that coverage for up to 18 months, although you'll pay the full premium plus a small administrative fee. As of January 2014, you'll also have access to coverage through state health exchanges.

Married couples who depend on each other's earning power need life insurance to cover the gaps when one spouse dies. You can get a rough idea of how much coverage you'll need on each life by calculating what you each contribute to annual living expenses and multiplying that amount by the number of years you expect to need it, says Steve Vernon, of Rest-of-Life Communications, a retirement consulting firm. (For advice on how to do a more precise calculation, see How Much Life Insurance Do You Need?)

If you have a pension, you'll have the option of choosing a single-life benefit, which ends at your death, or the standard joint and survivor's benefit, which pays less while you're alive but keeps paying (typically at 50% to 75% of the benefit) for the rest of your spouse's life. Your spouse is legally entitled to the survivor's benefit and must sign a waiver to forgo it. Don't be tempted by the higher-paying single-life option if your spouse will need the survivor's benefit later.

Decisions you make in claiming Social Security are similarly key. If you're the higher earner (typically, the man), "you will really help your spouse by delaying Social Security as long as possible," says Vernon. The benefit grows by about 6.5% to 8% a year for each year you delay after age 62, when you first qualify, until you reach age 70. If you die first, your spouse can qualify for a survivor's benefit up to the full amount you were entitled to, depending on the age at which she files.


You can follow Motley Fool contributor Dan Caplinger on Twitter @DanCaplinger or on Google+.
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