Dear Fix My Portfolio,
I am about to receive a lump-sum payout from a pension plan I was in. It’s around $130,000. Need some advice on the best way to invest this money. I am turning 60 in April and don’t have a 401(k) or IRA plan.
Stephen in Connecticut
It’s great that you’re asking what to do about moving around a major sum of money before it actually happens. So many people move the money first and ask questions later, which can cost you quite a bit in taxes and lost gain.
“I cannot tell you how many calls and inquiries I have received after an investor has made an incorrect rollover decision or unadvisable Roth conversion decisions, incurred huge tax liabilities, or caused their Medicare premiums to be double what they might otherwise be, and then called me to ask for help after the damage was done,” says Eric Amzalag, a financial planner and owner of Peak Financial Planning in Woodland Hills, Calif.
If $130,000 is going to be the majority of your nest egg for retirement, then you most likely want to do a direct rollover to an IRA account and never touch the money yourself. Your pension plan should be able to send the money directly to wherever you set up an account — most major financial institutions should have an option for you to open a rollover IRA account — and then you won’t owe tax until you take out distributions.
If the money comes to you in the form of a check and then you deposit it into an IRA account within 60 days of the distribution, you can likely defer the tax. But the timing can be tricky, and if you miss your window, you’ll owe the IRS income tax on the full amount.
Your investment choices
How you invest the money will depend on a couple of factors, the most important of which is your employment status. If the $130,000 is just a good start and you plan to keep contributing for, say, another 10 years without touching the principal, then you may actually want to be a bit conservative with your investing choices. That’s especially important right now, when the stock market is very volatile and interest rates are still rising.
If you work until 70 and contribute $10,000 a year, you might end up with more than $330,000 if you’re able to get a 5% rate of return. The good news is that amount would set you up with around $2,000 a month to spend for 20 years of retirement, plus presumably, you’d have Social Security. Bump that up to a 7% rate of return, and you could have closer to $400,000.
The bad news is that because of inflation, your dollars will not go as far as you’d hope. And with the economy still struggling, it might be hard to get a high return without a lot of risk.
But before you decide what funds you’re going to buy, you will want to think about the mechanics of how you’re going to allocate the funds. All at once? A little at a time?
“By and large, if you’re putting it directly into an IRA, we’re comfortable investing that all immediately. But in a taxable account, I wouldn’t want to put it all in the market all in one day. Spread it out over a couple of days,” says Kristin McKenna, a financial adviser who runs Darrow Wealth Management in Boston
“You can also put half into an S&P 500 index fund and half into bond funds, or something like that,” says Amzalag.
If you’re done working and this is all the money you’re going to be able to save, then you can decide if you want to be really conservative with it and keep it all in fixed income so it does not lose any value. You’ll start losing ground as you spend, but you can claim Social Security as early as 62, if you can’t hold out until 70.
“Or you might want to swing for the fences,” says Amzalag, and invest it in index funds with the hope that the stock market recovers. “It’s a tough call. It’s not so simple to figure it out.”
If you need help deciding how to invest the money, you can ask an independent financial adviser, but it can be hard to get their attention for smaller sums of money. You can also speak to somebody at the financial institution where you’re going to keep the money. All of the major brokerage houses like Fidelity and Vanguard have multiple levels of service and should be able to accommodate your needs. If you try to do it all on your own, just try to keep things as simple as possible — pick one to three broad index funds, especially one that that tracks the S&P 500
McKenna deals with many clients having sudden wealth events from inheritance, the sale of a business or other windfalls. The numbers are bigger, but the thought process on how to handle the funds is still the same, she says.
“You have to take a step back and see that multiple things need to happen at once. Before automatically saying how you will invest it, go through a checklist of what the money’s for. That’s what we tell people at any income level.”