Dave loves real estate investing, but he recommends investing in paid-for real estate bought with cash and not REITs.
Remember, the goal of Baby Step 4 is to invest 15% of your household income. You might not get to the full 15% with a 401(k) alone. That's why we recommend maxing out a Roth IRA once you're contributing to a 401(k) up to your employer's match.
A smaller number of employers offer Roth 401(k) accounts compared with traditional accounts, though, so if you don't have access to one, Ramsey recommends starting with the traditional account. Once you've invested enough to earn your employer match, Ramsey suggests investing the rest of your money in a Roth IRA.
One of the best ways to start planning for retirement is to open a Roth IRA. IRA stands for individual retirement account, and there are two types: traditional and Roth. We recommend a Roth IRA because it allows your investments to grow tax-free!
Taxes on Withdrawals
Being able to withdraw all the money you have accumulated during your working life tax-free is like an investing self-high five. That's why whenever we say “Roth” it just makes us happy because you have tax-free growth, with after-tax dollars doing tax-free stuff!
One key disadvantage: Roth IRA contributions are made with after-tax money, meaning there's no tax deduction in the year of the contribution. Another drawback is that withdrawals of account earnings must not be made before at least five years have passed since the first contribution.
Invest 15% of your gross income in good growth stock mutual funds through tax-advantaged retirement savings plans like your employer's 401(k) and a Roth IRA. At Ramsey, we love Roth IRAs and Roth 401(k)s because the money you invest in them grows tax-free and you won't be taxed when you take out money in retirement.
Rolling your money over to your new 401(k) plan has some benefits. It simplifies your life because your investments will be in one place and you'll also have higher contribution limits with a 401(k) than you would with an IRA.
Pretax contributions may be right for you if:
You'd rather save for retirement with a smaller hit to your take-home pay. You pay less in taxes now when you make pretax contributions, while Roth contributions lower your paycheck even more after taxes are paid.
The 4% rule assumes your investment portfolio contains about 60% stocks and 40% bonds. It also assumes you'll keep your spending level throughout retirement. If both of these things are true for you and you want to follow the simplest possible retirement withdrawal strategy, the 4% rule may be right for you.
Investing in stocks isn't like gambling because there are rules for investing that can lead you to have higher returns than keeping your funds in cash. Investors who treat stock market trading like gambling run the risk of placing their money in jeopardy by missing out on gains or losing it altogether.
Why investing matters
Investing is an effective way to put your money to work and potentially build wealth. Smart investing may allow your money to outpace inflation and increase in value. The greater growth potential of investing is primarily due to the power of compounding and the risk-return tradeoff.
Rule of Thumb for Asset Allocation based on age of investor
You can use the thumb rule to find your equity allocation by subtracting your current age from 100. It means that as you grow older, your asset allocation needs to move from equity funds towards debt funds and fixed income investments.
In fact, Ramsey says you should first invest in a Roth 401(k) if your employer offers one. If your company doesn't provide a Roth 401(k), then he suggests putting enough into the traditional 401(k) to get any employer matching funds and then directing the remainder of your contributions to a Roth IRA.
To adequately fund your retirement, we recommend investing 15% of your gross income. That means if you make $50,000 per year, you should be investing $7,500 into retirement savings.
At 10%, you could double your initial investment every seven years (72 divided by 10). In a less-risky investment such as bonds, which have averaged a return of about 5% to 6% over the same time period, you could expect to double your money in about 12 years (72 divided by 6).
Should Index Funds Be Part of Your Investment Strategy? We don't want you to settle for average. Here's our advice: Invest 15% of your gross income in good growth stock mutual funds that have a long track record of strong returns that beat stock market indexes like the S&P 500.
Younger folks obviously don't have to worry about the five-year rule. But if you open your first Roth IRA at age 63, try to wait until you're 68 or older to withdraw any earnings. You don't have to contribute to the account in each of those five years to pass the five-year test.
The biggest benefit of the Roth 401(k) is this: Because you already paid taxes on your contributions, the withdrawals you make in retirement are tax-free. ... By contrast, if you have a traditional 401(k), you'll have to pay taxes on the amount you withdraw based on your current tax rate at retirement.
The 401(k) is simply objectively better. The employer-sponsored plan allows you to add much more to your retirement savings than an IRA – $20,500 compared to $6,000 in 2022. Plus, if you're over age 50 you get a larger catch-up contribution maximum with the 401(k) – $6,500 compared to $1,000 in the IRA.