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Formulate a Financial Plan

Know Your Net Worth

Manage & Minimize Debt

Accumulate Assets

Budget to Live Within Your Means

Understand Investing Basics

Plan for Retirement

Insure People & Property

Deal with Financial Advisors

Review Your Employment Contract

Make Plans for Your Estate

Make Good Decisions


In this section I discuss several account types or plans you can use to manage your stock and bond investments. These investment accounts are distinguished by their tax-related characteristics, ranging from significant tax benefits to no tax benefits at all. Your guiding principle is to achieve broad diversification and minimize fees.


Qualified Retirement Plans (401(k) and 403(b))

Qualified retirement plans are sponsored by an employer and include 401(k) and 403(b) plans. 401(k) accounts are offered by for-profit organizations while 403(b) accounts are typically offered by tax-exempt organizations.

The plans become qualified by meeting IRS guidelines, which allows them to provide tax advantages to the sponsor (employer) and the employee. Typically, employees can choose, subject to some limits, what percentage of their salary they wish to contribute annually to their accounts. Employers may offer to match employee contributions up to a certain limit, for example, 6% of their salary.[1]

Employees contribute to these plans with pre-tax dollars, reducing their taxable income for that year. Gains within the plans are tax-deferred—no taxes are due until the employee begins to receive withdrawals (known as distributions) from the account.

The value proposition for qualified accounts is that distributions will be received, and taxes will be payable, when the account holder is retired, at which time her tax rate will be lower than when she was employed. There is, however, no guarantee that this will be the case in future.

Technically, you can withdraw as much as you want from these accounts once you are over 59.5 years of age, but these distributions will be subject to income tax at your marginal (highest) tax rate. If you withdraw a very large amount out of the account in a given year, the distributed income may push you into a higher tax bracket, resulting in a larger tax bill.

There are rules governing how much can be contributed per year, when distributions must be taken from such accounts and how much must be taken each year. Once you reach age 72 you generally must begin taking distributions from your account. By imposing this requirement the government forces you to pay taxes on money you’ve shielded from taxation. The amounts you must withdraw each year are known as required minimum distributions (RMD). Your RMDs depend on your account balance and life expectancy.

Taking distributions prior to age 59½ may trigger a 10% penalty on top of the taxes payable on the amount withdrawn. The 2019 limit on annual 401(k) or 403(b) tax-deferred contributions is $19,000 (The 2020 limit is $19,500). The IRS refers to this as your Elective Deferral amount. If you’re over the age of 50, you’re allowed an extra $6,000, known as a catch-up contribution ($6,500 in 2020). The total Defined Contribution Limit for 2019 (the combined amount you and your employer can contribute) is $56,000 (The 2020 limit is $57,000). These limits usually grow every year or two. I suggest you check the IRS website for the latest updates (

The money contributed by both employee and employer into these plans is typically invested in mutual funds. Management of qualified accounts is undertaken by a financial institution. It may offer its own mutual funds or allow you to choose funds offered by other companies. There may be a limited choice of funds in 401(k) and 403(b) plans. This could be bad for you if it limits your ability to diversify or to identify low-fee funds.

Often, employees accept the default settings on these accounts. Default settings may direct your contributions to mutual funds with unnecessarily high fees. Look closely at the available choices and ensure your contributions go to the most advantageous investments, which means those with good diversification and low fees. You and your colleagues can and should push your employer’s human resources department to switch to the most advantageous qualified plan around. Don’t accept a plan that isn’t optimized to your needs.


Related Links:

IRS 401(k) Contribution Limits

IRS 403(b) Contribution Limits

Strata Trust – Increasing Life Expectancies and RMDs

Schwab RMD Calculator

Fidelity Required Minimum Distribution Calculator

Fidelity Inherited IRA RMD Calculator



When an employer contributes matching funds to your retirement account, those funds may not automatically become your property. The employer may impose a vesting schedule, which specifies when each amount contributed by the employer legally becomes yours. Any amount that has been vested is yours. When you leave that firm you can take any vested amounts with you, usually by rolling funds over into an Individual Retirement Account (IRA accounts are discussed in a later section). Any amounts which have not yet vested when you leave an employer revert back to the employer.

Vesting schedules vary. Some examples are: (1) Vesting occurs after three years (each contribution made by the employer vests only after three full years have passed and the employee is still working at the company), or (2) 25% of each employer contribution vests each year, so each matching amount becomes fully vested after a total of four years, again assuming you’re still an employee.

Your own contributions and any gains on your contributions are always immediately fully vested to you.


Related Links:

Women’s Institute for a Secure Retirement: Improving the long-term financial security of all women through education and advocacy.

What are the Differences Between 401(k) and 403(b) Plans

Schwab RMD calculator


457(b) Account

Technically, a 457(b) account is not qualified by the IRS but I include it in this category because it is most similar to 401(k) and 403(b) retirement accounts. 457(b) plans are typically offered by state and local government employers to their employees and also to certain nonprofits such as hospitals.

As with 401(k) and 403(b) accounts, in 457(b) accounts employees contribute with pre-tax dollars, reducing their taxable income for that year. Gains within the plans are tax-deferred, so no taxes are due until the employee begins to receive distributions from the account. The 457(b) elective deferral contribution limit for 2019 is $19,000 ($19,500 for 2020). In 2019, an additional annual catch-up contribution of $6,000 is permitted for those above age 50 ($6,500 in 2020).

Because 457 plan accounts are not qualified, when you resign or retire from your job you may withdraw early from the account without the 10% early withdrawal penalty. Furthermore, 457(b) workers who are within three years of normal retirement age as specified in the plan can make special catch-up contributions equivalent to twice the regular limit. For 2019 the total they can contribute is $38,000 ($39,000 in 2020).


Related Links:

IRS 457(b) Contribution Limits


Non-Qualified but Tax-Advantaged Plans (IRAs)

There are some plans which are technically non-qualified but do provide tax advantages. They may be sponsored by an employer or by you as an individual. These plans include the Traditional Individual Retirement account (Traditional IRA) and the Roth IRA.

IRA limits for 2019 and 2020 are $6,000. If you are over the age of 50, you’re allowed a catch-up contribution of $1,000. Your annual compensation must be at least as high as the amount of direct contributions made in a given tax year to IRA accounts.

Any funds you withdraw from a Traditional IRA prior to age 59.5 are subject to a 10% penalty, on top of the taxes payable on the amount withdrawn. Once you reach age 72 you must begin to take distributions out of your account.

While annual contribution limits for IRAs are lower than for 401(k)s, there’s usually far greater investment flexibility in IRAs. You may be able to buy any of thousands of stocks, bonds, mutual funds or exchange traded funds. This makes it easier to diversify your investments, and also gives you the flexibility to select investment funds that have very low management fees.

In a Traditional IRA, contributions you make in a given year are made pretax, allowing you to reduce your income tax bill in the year the contribution is made. Your investments in an IRA grow tax-deferred—no taxes until you begin to take money out.

In a Roth IRA, your contributions are made after tax. That is, you don’t get to lower your taxes in the contribution year. Any gains are tax-deferred, but most importantly, you pay no taxes when you take the money out. Needless to say, not having to pay any taxes on gains is very appealing. It’s so appealing that everyone wants to do it. But the government limits eligibility for Roth IRA contributions by income.  In 2019, if you are single and have an adjusted gross income (AGI) of less than $122,000 ($124,000 in 2020), you can contribute the maximum to a Roth IRA. The permitted contribution gradually phases out, so that once your AGI reaches $137,000 ($139,000 in 2020), you are likely no longer eligible to contribute to a Roth IRA at all. If you are married filing jointly, for 2019 your permitted contribution begins to phase out at a combined AGI of $193,000 ($196,000 in 2020), and eligibility ends at $203,000 ($206,000 in 2020).

Check the IRS website for the latest updates.

Your contributions to a Roth can be withdrawn at any time without tax implications, because they were made post-tax, but any gains are taxed if withdrawn before age 59.5. There is a caveat that withdrawn funds have to have been in the account for at least five years. Otherwise, you could owe taxes and the 10% penalty.

It is possible to convert a Traditional IRA to a Roth, but that generally triggers taxes since the contributions to the Traditional account benefited from tax deductibility in the years they were made and the government wants its share of your income.

If you participate in a qualified retirement account offered by your employer (e.g., 401(k) or 403(b)) you may also be able to contribute to a Traditional or Roth IRA. I recommend confirming with your accountant whether you are eligible. If you’re not eligible to contribute and still have some money you’d like to put away tax-deferred you can contribute to a Non-deductible IRA. As the name implies, you are unable to deduct contributions from your income but the funds grow within the account on a tax-deferred basis. When withdrawn in later years you pay taxes on the gains but not on your original, non-deductible contributions.

It’s important to discuss non-deductible IRA contributions with your accountant as she may need to document the precise dates and amounts of your contributions in order to properly calculate taxable gains in future, in particular if you decide to convert some of the non-deductible Traditional IRA funds into Roth IRA.



The 2019 Setting Every Community Up for Retirement Enhancement (SECURE) Act made some significant changes to intergenerational IRA transfers. It is still possible for a spouse to inherit an IRA account and roll it over into her own name.  Subsequently, it’s as though she has been the owner of the account all along, and she can elect how she would like to receive the proceeds, subject to rules specifying required minimum distributions. By very gradually taking required distributions over her remaining lifetime she can minimize the taxes payable on those account withdrawals.

It used to be the case that an IRA owner could also pass an account to a child, who could then stretch out required distributions over their expected lifetimes. The younger the children, the smaller their required annual distributions. This approach was commonly referred to as a “Stretch IRA.” Note that this was a strategy—not a formal IRA type.

The Stretch IRA allowed the child to extend RMDs over many more years than the parent, allowing more of the balance to remain invested where it could grow further on a tax-deferred basis. Furthermore, the child’s tax bill could be much more favorable than the parent’s, due to a lower likelihood that the (smaller) additional income would push the earnings to a higher tax bracket. The strategy could also be used with grandchildren. The original IRA owner could name a grandchild as beneficiary, and that youngster could stretch required distributions out over many decades.

The SECURE Act took away the Stretch allowance for most non-spouse beneficiaries. There are some exceptions, for example, in the case of siblings who are close in age to the original owner or children with disabilities, but most inter-generational inheritors must now empty the inherited account within ten years. This rule has been dubbed the “drain in ten” rule.

Acceleration of distributions is much more likely to force recipients into higher marginal tax brackets and deprives them of the tax-deferred growth they could have realized over many more years. Any funds remaining in the account are subject to heavy penalties, which could reach 50% of the amount not distributed as required.

Another negative consequence of this rule change is that distributions received by the beneficiary are no longer in a tax-deferred account, so any subsequent interest, dividends, or capital gains on those distributions are subject to tax. 

For decades, estate planners drafted Trust documents using wording consistent with the now expired Stretch IRA regime. Many of those documents must now be updated. If you or a parent has any such documents, have them reviewed to ensure the language still holds unambiguously.

There are other ways to approach intergenerational tax planning challenges, including naming a Trust as the beneficiary of a retirement account. Due to potential complexities of Trust law, it’s highly advisable to review all these decisions and structures with a competent and specialized attorney and or tax accountant.


Related Links:


IRS IRA Contribution Limits

IRS Cost of Living Adjustment for Limitations on Benefits and Contributions

FINRA Inherited and Stretch IRAs

Merrill Edge IRA Selector Tool

TD Ameritrade IRA Selection Tool



Roth 401(k)/403(b)

In 2006, a new retirement plan was approved. Similar to a Roth IRA, the Roth 401(k) is funded with after-tax dollars and no tax deduction is available in the year a contribution is made. No taxes are paid when qualified distributions are taken. Unlike the Roth IRA, there are no income limitations for participation in Roth 401(k)/403(b) plans. The usual 401(k)/403(b) maximum contribution limits apply. Note that employer matching contributions must go into regular 401(k)/403(b) accounts. They are not treated as Roth assets, and funds in Roth 401(k) may be subject to required minimum distributions, even if they are not taxed.


Backdoor Roth IRA

You may have heard of the Backdoor Roth IRA tactic. It’s often touted as a way for high earners to bypass income limits and still be able to contribute to a Roth. The Backdoor Roth is a tactic, not an official type of IRA. The procedure requires you to contribute to a non-deductible IRA and then convert it to a Roth account. Your non-deductible IRA contributions were made post-tax so they are compatible in that sense with Roth contributions which are also made post-tax. Some people suggest that you convert immediately to avoid the account accruing any gains as those would be subject to taxation following conversion. Others argue that immediate conversion risks running afoul of the Step Transaction Doctrine, which could be used by a tax court to argue that your hasty steps are nefarious.

Setting aside the step transaction doctrine, which requires legal opinions from a licensed tax expert, there is another catch. If you already have other Traditional IRA (pre-tax) assets, then the amount of your backdoor Roth IRA that gets the favorable Roth taxation treatment is pro-rated based on the relative amounts of your post-tax and Traditional pre-tax accounts at year-end. For example, if you have $95,000 of pre-tax (Traditional) IRA holdings and $5,000 in post-tax (Non-deductible) IRAs you wish to convert, the percentage of any conversion to Roth that gets true Roth treatment is only $5,000/$100,000 = 5%. This means you will owe income taxes on 95% of the conversion. This pro-rata rule was put in place to ensure the Roth benefit does not go to people who are well-positioned for retirement by already having significant Traditional IRA assets. The rule significantly dilutes the benefit of the conversion.

There is a way to sidestep this pro-rata rule, by getting rid of your Traditional IRA assets. This is possible if your employer-provided 401(k) or 403(b) allows you to roll-in external assets into the account. The idea is that after rolling-in all your Traditional IRA assets into the qualified account, you will have zero pre-tax IRA assets, and the pro-rata rule will not affect you. Keep in mind that 401(k) and 403(b) accounts generally offer fewer investing options, and fees may not be as low as you could find in an IRA. So, you could convert to Roth, but your now larger holdings in qualified employer accounts may be subject to higher annual fees. That represents a drag on your value gains and somewhat undermines the conversion strategy.

An alternative if you own a company is to set up a Solo 401(k) through a provider that allows roll-ins. Then transfer your Traditional IRA assets into that new account, thereby side-stepping the pro-rata rule.

Final thoughts on such conversions: the process is fairly straightforward, but your tax filing must be precise. Any mistakes on your part or on the part of your accountant could lead to headaches, penalty payments, and additional filing costs in future. You or your accountant must properly track the timing of conversions and file IRS Form 8606, titled, “Nondeductible IRAs,” along with any other required paperwork. You should also be aware of the previously mentioned step transaction rule which could be invoked to undermine your contribution-and-immediate-conversion strategy.

I’ve encountered several accountants who were not aware of all the required steps and limitations. You may wish to direct them to some of the relevant links posted below.


Related Links:

How to do a Backdoor Roth IRA contribution while avoiding the IRA aggregation rule and the step transaction doctrine

Morningstar Backdoor Roth IRA? Avoid These 6 Mistakes

Nerdwallet Backdoor Roth IRA high-income how-to guide

Bogleheads IRA recharacterization

Schwab Roth IRA Conversion Calculator

Fidelity Roth Conversion Calculator


Traditional vs. Roth Accounts

It’s commonly assumed that Roth accounts are more advantageous than Traditional IRA accounts. For the most part this is correct. Most people assume this is correct because it’s great to receive money in future without having to pay taxes. But if that was the only consideration, the decision between the two would hinge only on whether you believe taxes will be higher or lower when you retire. If you believe you’ll pay higher taxes in your retirement years, then the Roth strategy makes more sense because you pay low taxes now and avoid higher ones in future. If you believe taxes will be lower in retirement, you’d be better off with a Traditional IRA because you’ll avoid higher taxes now and pay lower taxes later.

The superiority of the Roth IRA comes from its flexibility. In particular, Roth IRAs don’t force us to take required minimum distributions, while Traditional IRAs are subject to RMDs, which trigger taxes. Having control over the timing of withdrawals without penalty is very useful.  It is also easier to initiate early withdrawals from Roth IRAs by taking your own contributions out since they were made post-tax. Early withdrawal from Traditional IRAs may trigger 10% penalties on top of taxes. It is generally inadvisable to withdraw early from Roth accounts, but the flexibility to do so as needed is useful.

Roth IRAs used to have the additional advantage that you could continue to make contributions at any age, while Traditional IRAs did not allow contributions after age 70.5. But that difference was removed by the SECURE Act which now allows Traditional IRA contributions beyond age 70.5.   

We don’t know whether our taxes will be higher or lower in retirement. Forecasting taxes decades into the future is an impossible task and not worth the effort. A further complication is that in addition to uncertainty about future tax rates, we don’t know whether future legislation will tax Roth IRAs or undermine any of the other existing retirement account types. If that happens, existing account holders may be grandfathered under the old rules but there are no guarantees. The only response to these unknowns is a tax diversification strategy of purposely holding both pre-and post-tax accounts in case tax laws change.


Related Links:

Roth versus Traditional IRA account?


Regular Brokerage or Investment Accounts

Regardless of whether you have a retirement account such as a 401(k) or IRA, you can also open a regular taxable investment or brokerage account directly with an investment or brokerage firm. The account may not offer any tax benefits but it still allows you to invest available cash and have it grow over time, contributing to your household nest-egg. Following a passive investing strategy also helps to keep tax payments relatively low in a taxable account.

Brokerage accounts typically require you to pay per transaction. That is, every time you buy or sell stocks or ETFs you will pay a brokerage commission. If you choose a full-service brokerage firm, a broker will be available to recommend purchases or sales of securities and to implement those trades on your behalf.

If you choose a discount brokerage firm, the firm will execute your trades, but will not provide you with any advice. Discount brokers, as the name implies, charge lower commissions than full-service brokers.

As a passive investor you neither need nor want active investing advice, especially if that might take your focus away from the prescribed passive path. You also want to minimize fees. Using a discount broker instead of a full-service one makes sense on both fronts.

If you do your trading through an account with an investment management firm such as Fidelity or Vanguard, you may not have to pay commissions for buying or selling ETFs or mutual funds managed by the firm.

In any taxable account, earnings you receive in the form of dividends from stocks or interest from bonds will be taxable in the year those earnings are received. If you sell any stocks or bonds you may also realize a capital gain (if sold for a profit) or a capital loss (if sold for a loss). In the case of a capital gain, you will be subject to long- or short-term capital gains taxes, depending on whether you held the investment for more or less than a year. Long-term capital gain tax rates are typically lower than short-term gain tax rates. 

From a pure diversification perspective, if you have one of each of these accounts: a 403(b), a Roth IRA, a Traditional IRA, and a discount brokerage account, they may all be investing in similar stocks, bonds, mutual or exchange traded funds. If that’s the case, you may get relatively little diversification benefit across these accounts. You could, of course, purposely hold very different assets in each account, carefully selected to make the most of diversification benefits.


[1] Employers can deduct their contributions from corporate earnings, leading to tax savings for the corporation.