User:LadyGeek/Prioritizing investments

🇺🇸 Investors who are able to place their investments in several different kinds of accounts (such as taxable accounts, 401(k), or an IRA) need to decide which ones to prioritize.

Investing in a prioritized order will maximize the tax efficiency of a portfolio (pay the minimum amount of taxes).

Funding priority
Here is a general account funding priority that often works well for many people (not all points will apply to everyone). Refer to Figure 1.


 * 1) Establish an emergency fund to your satisfaction. If you have many other high financial priorities (like paying off high-interest debt), start with a smaller emergency fund, and grow it later over time, as those other priorities are satisfied.
 * 2) Contribute to an employer retirement plan (eg. 401(k) or 403b) enough to get the full employer match (the match is like free money, your best possible investment).
 * 3) Pay off high-interest debt (a guaranteed high return, the next best thing to free money).
 * 4) Contribute to a Health Savings Account (HSA) if available (unlike many other tax deductions, there are no income restrictions to contribute to an HSA).
 * 5) Contribute the maximum to an IRA, traditional or Roth (or  backdoor Roth technique ), depending on eligibility and personal circumstances. (See  below for situations where you may prefer to swap steps 5 and 6.)
 * 6) Contribute the remainder of the maximum employee contribution to the employer retirement plan.
 * 7) If your plan supports it, employ the mega-backdoor Roth strategy.
 * 8) Pay off medium-interest debt (eg. student loans, car loans, personal loans), especially if the interest is not tax-deductible.
 * 9) Invest inside a taxable investing account. In certain circumstances, a Non-deductible traditional IRA may be better than a taxable account.
 * 10) Pay off low-interest debt (eg. most mortgages, some car loans).
 * 11) Invest in low-return assets (eg. money markets, Certificates of Deposit (CDs)).

The choice to pay off debt or invest is based mostly on the expected after-tax rate of return (what's left after taxes are taken out). When the returns are similar, secondary factors sway the decision; see: Paying down loans versus investing.

Health savings accounts: Use of an HSA requires participation in an IRS qualified high deductible health plan (HDHP) at work. Look at your particular health care needs to decide if you may be better off with a traditional health care plan or an HDHP plus HSA. If the latter, then using the HSA as an investment account can be advantageous.

Choosing between an employer retirement plan and an IRA
If one of the following applies to you, it may be preferable to swap steps 5 and 6 (i.e., contribute to the company plan before contributing to an IRA ): See: Comparison between IRAs and employer plans.
 * If you earn too much for a full IRA tax deduction (above the IRA Deduction Limits) and wish to avoid the complexity of a non-deductible traditional IRA. Also, you do not want to contribute to a Roth IRA.
 * If your earnings are partially IRA tax deductible (the partial deduction limits in the charts linked from IRA Deduction Limits) and you prefer to deduct a traditional IRA instead of using a Roth IRA. Note that contributing to a traditional employer plan will reduce your MAGI and therefore increase the amount of IRA contributions that can be deducted.
 * If the company plan offers lower-cost funds than the IRA.

An investor's tax bracket may influence the decision as well: those in higher tax brackets should consider higher contributions to a tax-deferred plan (e.g. traditional 401(k) or IRA) rather than a post-tax plan (e.g. Roth 401(k) or IRA); see Traditional versus Roth for more guidance.

401(k) plans with high cost funds
Many company plans contain high-cost funds which make them unattractive. If you have such a plan, look for one or two index funds or a bond fund that can be used. If your company offers matching funds up to a certain contribution level, it's always wise to use the company plan. If there is no match, the power of tax-deferred compounding and automatic contributions still favors using the plan with limited contributions.

Also, if you leave your current employer you will most likely be able to rollover the assets in your poor-quality company plan to either a better company plan, or to an IRA.