MONEY Ask the Expert

What’s Your Real Risk Tolerance for Investing?

Q. What’s my risk tolerance? I’m 31 and 90% in stocks, but I’m not willing to take a 50% hit. Craig Carlson — Omaha, Neb.

A. Considering how often the term “risk tolerance” is bandied about in the investment world, you’d be surprised how much confusion surrounds it.

Many people believe that your appetite for risk rises and falls — that is, you’re more willing to take on risk during bull markets, less so during bears.

Not true, says Geoff Davey, director of FinaMetrica, an Australian firm that creates risk-profiling systems.

You have a set amount of risk that you’re comfortable with. When you feel the urge to bail after a meltdown, your temperament didn’t change; you misjudged the risks you were taking.

“People underestimate risk when markets are booming and overestimate it when there’s a bust,” says Davey.

So how can you get a better handle on this crucial concept and develop an investing strategy?

For starters, think seriously about how much you could watch your savings drop before you panic.

From the market’s 2007 peak to the 2009 trough, stock values plunged more than 50%, while intermediate-term government bonds rose roughly 6%. A portfolio of 90% stocks and 10% bonds fell 45%; a fifty-fifty mix was down about 22%.

If you think 20% or so is the most heat you could stand, a 50% stock stake is probably close to your upper limit, even though that’s far less than what’s often suggested for someone your age.

You could also fill out one of the many risk-tolerance questionnaires available online. The problem is, most tend to focus on how much risk you ought to take with your investments, not the swings you’re prepared to handle.

A notable exception is FinaMetrica’s questionnaire (Cost: $45), which gives you a numerical risk-tolerance score on a scale of 1 to 100 that corresponds to the percentage of risky assets that’s appropriate for someone like you.

You may, however, discover a gap between the amount of risk you can tolerate and the amount you must embrace to reach your goals.

Say you prefer a fifty-fifty stock/ bond split but, given what you’re saving, you need upwards of 70% in stocks to generate the necessary returns. You could buy more stocks in hopes of higher gains, but investing too far outside your comfort zone could backfire. You could end up selling at a big loss during a downturn.

The better option: Adhere to a portfolio you can handle and make other adjustments, such as saving more, working longer, or scaling back your retirement lifestyle.

Finally, most people become less tolerant of risk as they age. But even if you’re okay with the same stock-heavy mix at 65 that you had in your thirties, you’ll probably still want to dial back. The same loss you shook off in your youth could so deplete your nest egg in retirement that it might never recover.


Investing rules of thumb: Why they don’t always work

I’ve always heard that 100 minus your age gives you the percentage of your retirement portfolio that you should invest in stocks. Do you recommend that rule of thumb as a good way to invest? — John Noel

There’s no question that rules of thumb — or “heuristics,” as behavioral economists call them — can simplify activities many people find confusing, such as investing. Easy-to-follow rules can even sometimes produce better results than more sophisticated methods.

For example, researchers found that small business owners who were taught basic rule-of-thumb techniques for estimating profits and calculating revenues improved results more than those who were trained in the fundamentals of traditional financial accounting (which may come as no surprise to anyone who’s struggled through an accounting course).

Still, I’d be wary about relying exclusively on rules of thumb when it comes to investing, or for that matter, any other aspects of retirement planning, including the 70% rule for estimating how much income you’ll need in retirement and the 4% rule for gauging the amount you can safely withdraw from your nest egg after retiring.

One reason you need to be cautious about applying a rule of thumb is that many times there’s no real consensus about what the standard is. For example, when I arrived at MONEY Magazine nearly 30 years ago as a (relatively) fresh-faced writer who still had a full head of hair, 100%-minus-your age was the widely accepted gauge for determining how much stock one should have in a retirement portfolio.

But as investors became more enamored of stocks in the bull market of the late 1980s, you began to see references to a 110-minus-your-age benchmark. And by the time the “Stocks for the Long Run” culture really began to dominate, 120 minus your age was being touted as a more appropriate standard.

Related: Six secrets to a dream retirement

So if you were, say, 30 years old, you could end up with anywhere from 70% of your savings in stocks (100% minus 30) to 90% (120% minus 30), depending on which version of the rule you applied.

But even aside from the question of which benchmark is the accepted one, there’s the even more important issue of whether you should be basing your retirement investing strategy on any rule of thumb. After all, by its nature a rule of thumb is a metric that’s meant to apply to the average person or typical situation.

You’re not an average, though, and your finances may not be typical. You are you, a specific person who has distinct financial needs and preferences.

For example, if you’re age 65 and ready to retire, applying the 100-minus-your-age standard would give you a stock stake of 35% of your savings. That may be perfectly fine for many 65-year-olds. But if you have a relatively modest nest egg and you’re likely to bail out of stocks if the Dow drops 20%, then investing 35% in equities could be too racy for you.

If, on the other hand, you’ve got a huge pot of savings that can continue to throw off sufficient income even if the market tanks, or if Social Security and a pension cover enough of your expenses that large fluctuations in your retirement balances don’t faze you, then it may make sense for you to boost your stock holdings well beyond 35%.

So what do I propose instead of going with a rule of thumb?

Well, when investing for retirement you want to create a stock-bond allocation that can get you the returns you need without subjecting yourself to a level of risk that you can’t handle.

One way to arrive at an acceptable tradeoff between those two aims is to go to a good retirement calculator, plug in your financial information and test run a variety of stock-bond mixes. That will give you an idea of how your chances of achieving a secure retirement may change as you increase or decrease your exposure to stocks.

Related: Social Security’s role in your portfolio

Once you’ve arrived at a blend of stocks and bonds that seems appropriate, you can then go to Morningstar’s Asset Allocator tool to see how far that mix might drop over the course of three months if the market tanks. You could also do a quick back-of-the-envelope calculation to determine how large a loss a given blend might have sustained in severe downturns in the past.

From late 2007 to early 2009, for example, stocks lost roughly 50%, while the broad bond market gained about 15%. So an 80-20 mix of stocks and bonds would have sustained a loss of 37% vs. a setback of only 17.5% for a portfolio split equally between stocks and bonds.

Of course, there’s no assurance that the future will unfold exactly like the past. It probably won’t. But going through the exercises I just described can at least give you a sense of what the possibilities are for different allocations of stocks and bonds — and offer a much better guide for investing your retirement savings than any rule of thumb.

MONEY Investing

Where To Put Your Retirement Money

From the years you spend tending to your portfolio to the time when you finally get to enjoy sweet success, you face questions about what to do. Ace these and prosper.

This story is part of Money magazine’s story 5 retirement choices: Get ‘em right, live well which covers big decisions that can dramatically boost your income in retirement.

Once you determine how much of a saver you are, you have several more decisions to make — including how you invest your portfolio.

Decision No. 2: How should you divide up your money?

The decision: Once you’ve amassed a portfolio worth more than five figures, you may wonder whether you should branch out from plain-vanilla stock and bond funds.

To hear some advisers tell it, you can’t have a truly diversified portfolio unless you spread your money among virtually every asset class, sector, and subsector under the sun: hedge funds, currency, single-country funds, precious metals, exotic ETFs.

Why it’s important: You can capture more than enough of the benefits of diversification — solid returns while minimizing risk — with a relatively simple stocks/bonds mix.

Related: Betting your retirement on stocks

Start by making sure you own a broad swath of U.S. stocks and bonds. Then add developed and emerging foreign markets.

For inflation protection, you might pick up some real estate and TIPS. Adding more to this basic blend isn’t likely to appreciably boost your performance.

In fact, stocking up on a dozen or more different assets may work against you. One reason is the phenomenon that asset-allocation expert William Bernstein refers to as “overgrazing” — as more and more investors plow money into a newly discovered alternative investment, the lower its expected return.

Related: Investing in TIPS – Can retirees beat inflation?

“The first ones in get sirloin, but the latecomers get hamburger or worse,” says Bernstein. Many nontraditional assets also come with hefty fees.

As you pile on more investments, monitoring and managing them become harder.

“If you’ve got upwards of 20 different investments in 401(k)s, IRAs, and taxable accounts, you’re talking about a blizzard of trading every time you rebalance,” says Wealthcare Capital Management CEO David Loeper.

Best move: The simplest way to create this mix is by using index funds or ETFs from our MONEY 50 list. Aside from simplicity, they have the advantage of certainty: These funds strictly follow defined benchmarks, so you know exactly how they’ll invest.

Most important, though, resist the urge to jump onto the alternative investments bandwagon. Says Bernstein: “Wall Street needs to sell them, but you don’t need to buy them.”


MONEY Savings

5 Retirement Choices: Saving vs. Investing

From the years you spend tending to your portfolio to the time when you finally get to enjoy sweet success, you face questions about what to do. Ace these five and prosper.

Making better decisions can dramatically boost your income in retirement, a new study finds. That’s not exactly earth-shattering news. What may surprise you are which decisions matter most, according to researchers at Morningstar.

They are not the kinds of choices you may obsess about, like whether to buy Apple stock or where to find the next hot emerging market. Rather, the most crucial decisions involve more fundamental issues, like how you manage your 401(k) plan.

The idea of making savvy choices applies to all phases of planning. So, based on what I’ve learned writing my Ask the Expert column, I came up with these five big decisions you need to get right before and after you retire.

1. Are you a saver or an investor?
2. How should you divide up your money?
3. How much help do you really need?
4. What’s the best use of tax-deferred plans?
5. How much can you draw from your savings?

Decision No. 1: Are you a saver or an investor?

The decision: When you sign up for a retirement plan or use an online calculator to track your retirement progress, you must decide how much to save and how to invest those savings. It may seem counterintuitive, but your savings rate is by far more crucial.

Why it’s important: Even though history shows that tilting a portfolio toward equities generates higher returns, loftier gains are hardly guaranteed — witness the 3.4% annualized loss you would have suffered by investing in the S&P 500 index from March 1999 to March 2009. And investing too aggressively leaves you more vulnerable to downturns like the near 60% drop in the 2007-09 bear market. Ratcheting up the amount you sock away is a surer way to improve your chances of achieving a secure retirement.

Increasing how much you save every year has a much bigger impact on your eventual retirement security than investing more aggressively does. The reason: While shifting more savings to stocks enhances return potential, it also increases volatility, which dilutes the effectiveness of a stock-heavy portfolio.

Saving more has another benefit: You can afford to invest more conservatively. By saving 20% a year for 30 years — a high bar, for sure — you can trim stock holdings to 60% and still have the same high chance of success you would have with an 80/20 mix.

Best move: Aim to save 15% or more a year. You’ll improve your odds of retiring in comfort and be less vulnerable to the vagaries of the markets.

MONEY Ask the Expert

Betting Your Retirement: Stocks vs. bonds

Q. I’m 35 years old and a diligent saver. I’m torn, however, about whether someone my age should own bonds. If the stock market has never had a negative 10-year span, shouldn’t I invest 100% of my savings in stocks and keep it there until I’m within a decade or so retiring? — Mark N., Austin, Texas

A. With stocks on a roll in recent months, investors who were shunning equities just last year are feeling positively ebullient about them now. But before you plow all your retirement savings into stocks, I have two words of caution for you: Downton Abbey.

What, you may ask, could a soap opera set in England in the early 20th century possibly have to do with your retirement planning? Rather a lot, actually.

As viewers of Downton’s third-season premiere will recall, Lord Grantham’s lawyer informed him that the Canadian railway into which he had sunk the bulk of his wife Cora’s fortune stood on the verge of bankruptcy, jeopardizing the financial health of his estate.

Upon hearing this news, the Earl of Grantham thundered, “Every forecast was certain. Rail shares were bound to make a fortune…It wasn’t just me. Everyone said we couldn’t lose!”

I’m not saying that putting 100% of your retirement savings in stocks is as rash as Lord Grantham’s decision to invest so heavily in just one stock. But tying your retirement prospects to the performance of a single asset class — and a very volatile one at that — wouldn’t exactly qualify as a prudent move either.

One reason is that while losses in stocks over long stretches are rare, they do happen, despite your supposition to the contrary.

Related: Can retirees beat inflation?

For the 10 years from 1999 through 2008, for example, large-company stocks lost 13% of their value. There have also been a handful of 10-year and even 20-year spans during which stocks had positive returns yet still lagged bonds.

So while I think it’s reasonable to expect stocks to outperform bonds over the long term in most instances, there’s enough variation so that it pays to hedge. The investing world is too uncertain for all-or-nothing bets.

Besides, you shouldn’t be basing your investing strategy solely on expected returns. You’ve also got to consider your risk tolerance, or how you’ll likely react if the market tanks (as it inevitably will many times between now and when you retire).

It’s one thing to say you think you should be 100% in stocks because you believe that over long periods equities will rack up the highest gains. It’s quite another to stick to that strategy when a plunging stock market zaps the value of your 401(k) by 50% or more, and it’s anyone’s guess how long it will take for your account to bounce back.

My suggestion: Go to a good online retirement calculator and plug in such information as your age, when you think you might retire, how much you already have tucked away in retirement accounts and how much you plan to save going forward. Then run scenarios with different investing strategies –100% stocks, 90% stock/10% bonds, 80%/20%, etc. — and see how the probability of achieving a secure retirement changes as you reduce the percentage of your savings you devote to stocks.

Related: 4 ways the market could really surprise you

If you’re really the diligent saver you say you are, you may find that you don’t have to resort to a high-octane stock mix to have a good shot at a comfortable retirement. You may be able to get by with a more conservative stocks-bonds blend. You might also find that after a certain threshold — say, 70% or 80% stocks — adding more equities doesn’t improve the odds very much at all.

Of course, it’s also true that the more you invest in stocks, the better you’ll do if the markets do well. But that upside isn’t a given, and even if it materializes it can come with some frightening spills and chills along the way. So it can pay to sacrifice some upside in return for a less jarring ride.

As you near and enter retirement, you’ll probably want to gradually scale back the amount you devote to stocks. Research shows that risk tolerance tends to decrease with age. Besides, the consequences of aggressive investing can be more dire later in life. Once you’re retired, you no longer have a chance to make up for investment losses by saving more.

That means a big hit to your nest egg could result in you running out of money before you run out of time. For guidance on how you might shift from stocks to bonds as you age, check out this illustration of a target-date retirement fund “glide path.”

But whatever you do, don’t go all stocks on the mistaken notion that equities are a definite win as long as you remain invested in them at least 10 years. If you do, you may later find, as Lord Grantham did, that no forecast, regardless of how certain it may seem, can ever guarantee that you can’t lose.

MONEY Ask the Expert

Investing in TIPS: Can Retirees Beat Inflation?

Q. Are TIPS a good investment for a retiree? — Rich Sherman

A. If your goal is to protect the value of your assets and your income from inflation over the course of a long retirement, then you should certainly consider TIPS, or Treasury Inflation Protected Securities.

But before you go stuffing your retirement portfolio with them — or more likely, TIPS funds — you first need to understand the type of the inflation risks you face in retirement. You’ll also want to keep in mind that you already have a very powerful inflation buffer in Social Security, as its payments are pegged to the inflation rate.

So as important as hedging your retirement portfolio against inflation is, you don’t want to overdo it.

Essentially, you need to guard against two forms of inflation during retirement. The first is what economists call expected inflation, or the steady rise in the price level that takes place over many years.

Hedging against this version of inflation is relatively straightforward: Keep a portion of your savings in investments that have the potential to generate returns several percentage points or more above the inflation rate over the long term.

Stocks are clearly one such investment, although mutual funds that invest in REITS and other real estate-related investments can also provide long-term inflation-beating returns. (Don’t forget that if you own a truly diversified portfolio of stocks, such as a total stock market index fund, you already have REITs in the mix.)

Related: Long-term investing — keep it simple

The second type of inflation you need to protect against is unexpected inflation. This is the kind that can flare up suddenly, like the oil-price shocks of the mid-1970s and early 1980s.

These spikes are usually relatively short-lived, so they’re not a major issue for people still investing for a retirement that’s decades down the road. But if you’re a retiree relying on your investments for current spending cash, even short spurts of inflation can make it more difficult to maintain your standard of living.

The issue is how to deal with this second inflation threat. Many advisers recommend investments like commodities or gold, which have the potential to generate lofty returns when unanticipated inflation takes off.

But Vanguard Investment Counseling and Research principal John Ameriks points out that these outsized returns aren’t a given. “There are many historical instances where you see high inflation and low commodity returns,” says Ameriks. Indeed, research shows that there’s roughly a 30% chance that commodities could post negative returns if inflation goes up.

TIPS, on the other hand, are uniquely suited for handling unexpected inflation. Unlike commodities or gold, which may be statistically likely to climb in value if inflation spikes, TIPS have been specifically designed to rise along with increases in the consumer price index.

Related: Are emerging market bond funds a safe haven?

That said, TIPS also have some drawbacks. They are bonds, so their value can fall if real interest rates rise. What’s more, demand for TIPS from investors seeking shelter from inflation has pushed their real yield, or their payout after inflation, close to or even below zero. Recently, for example, the real yield on 10-year TIPS was -0.53%.

Many advisers have pointed to TIPS’ negative real yields as a reason not to own them. But while investing in TIPS when their real yield is negative does mean you’ll earn less than the inflation rate, the principal value of the TIPS and the income they throw off will still rise if inflation picks up. Thus, by owning them you are still protecting yourself should inflation climb in the future or spike unexpectedly in the short-run.

Besides, it’s not as if regular Treasuries or other bonds will thrive if inflation heats up. Quite the opposite. Conventional 10-year Treasuries recently yielded about 2.03%. So if inflation exceeds that level over the next 10 years, regular 10-year Treasuries would generate a loss. And if inflation exceeds 2.56% — the recent difference between the -0.53% yield for 10-year TIPS and the 2.03% yield for 10-year nominal Treasuries — then TIPS will outperform regular, or nominal, Treasuries.

That’s why you really want to own both TIPS and regular Treasuries and other bonds. If inflation rises over time or just spikes for a shorter period at some point in the future, then TIPS could be the better performer. If inflation stays tame or becomes even more docile, then conventional bonds will generate better returns. By owning both, you’re hedging your bets.

You can argue about how much of a retiree’s bond stake should go to TIPS vs. nominal bonds. But if your retirement portfolio already includes some stocks to protect against expected inflation over the longer term, then devoting, say, 25% to 30% of your bond holdings to TIPS seems a reasonable way to guard against both expected and unexpected inflation.

Bottom line: Investing in TIPS is a reasonable way for you to protect your purchasing power in retirement. But do it in moderation. Because the more you focus your investing strategy toward dealing with one risk, the more vulnerable you are to others.

MONEY Ask the Expert

Long-Term Investing: Keep It Simple

Q. I have $12,000 that I’m ready to invest for a long term. But I’m not sure whether to buy regular mutual funds, index funds or a mix of both. What do you suggest? — Daniel, Sugarland, Texas

A. I believe that investors are generally better off when they keep things simple. So for that reason alone, I’d go with index funds.

You can make a very nice diversified portfolio for yourself by combining just two funds: a total stock market index fund VANGUARD INDEX FDS TOTAL STK MARKET PORTFOLIO VTSMX 0.2797% and a total bond market index fund VANGUARD BD IDX FD COM NPV VBMFX 0.0923% . That would give you a portfolio that covers all sectors of the U.S. stock market — large and small caps, value and growth shares, virtually every industry — as well as the entire investment-grade taxable bond market, including government and corporate bonds.

You would do just fine if you stopped there.

But if you want to add some exposure to foreign markets — which over the long run can reduce the volatility of your portfolio overall — you could also throw in a total international stock index fund VANGUARD STAR FUND TOTAL INTL STOCK INDEX FD VGTSX -0.3474% . For guidance on how to divvy up your holdings between stocks and bonds, you can check out our Fix Your Mix asset allocation tool.

Simplicity aside, this approach offers another huge benefit: low annual expenses.

By sticking to diversified stock and bond index funds, you’ll likely pay yearly fees of less than 0.25% of the amount invested, in some cases less than half that figure. Regular, or actively managed, mutual funds on the other hand, often charge 1% of assets or more. And while there’s no guarantee that lower expenses leads to better performance, there’s plenty of evidence that’s the case, including this 2010 Morningstar study.

Oh, and there’s one more reason I prefer index funds: You know exactly what you’re getting. As their name implies, index funds track a particular index or stock market benchmark. The fund holds all, or in some cases a representative sample, of the stocks in the index and nothing more (except, perhaps, a smidgen of cash to accommodate redeeming shareholders).

Managers of actively managed funds, by contrast, have lots of wiggle room when it comes to investing.

So even though a fund may purport to specialize in, say, domestic large-cap value stocks, it’s not unusual to find a manager making forays into small-caps, growth stocks or even foreign shares in an attempt to juice returns. This sort of “adventurism” makes it harder to use actively managed funds as building blocks for a diversified portfolio in which you’re counting on each fund to play a specific role.

But as much as I believe index funds are the better choice, I don’t think you’d be jeopardizing your financial future by devoting a portion of your investing stash to actively managed funds. And if that’s the way you want to roll, you should have no trouble finding funds run by smart managers with solid long-term records who can do a credible job of investing your money.

In that case, you might employ a version of what’s known as a “core and explore” strategy: put most of your money into index funds and then round out your portfolio with some well-chosen actively managed funds.

Related: Mutual funds – a simple way to diversify your portfolio

How much of your dough goes into the core vs. explore is up to you. But to prevent any bad picks from undermining your portfolio’s overall performance, I’d recommend keeping the active portion of your holdings pretty small, say, 10% to 15%.

There’s one other thing you’ll want to be careful about if you decide to take this hybrid approach. Some advisers suggest using index funds in “efficient” markets like those for U.S. and developed country large-cap stocks and recommend actively managed funds for “inefficient” markets like those for small-caps and emerging market stocks. But identifying efficient vs. inefficient markets isn’t quite so simple, and finding active managers who consistently outperform is difficult in almost any market.

So I’d recommend that you get exposure to all markets with index funds and then add the actively managed funds you like even if it means you’ll have a bit of overlap in some areas.

I also suggest that as much as possible you go with actively managed funds that have reasonable expenses, as that should give those funds a better shot at competitive performance. You can find such funds, as well as all the index funds you’ll need, on our MONEY 50 list of recommended funds.

To sum up, I think most investors would be best served if they just stick with a straightforward portfolio of broad index funds.

Human nature being what it is, however, many people will give in to the urge to venture beyond the indexes for the thrill (even if only fleeting) of finding a fund that beats the market. If you’re one of those people, fine. Just don’t let yielding to that urge undermine your investing results.


The other way to invest in a Roth IRA

My income is too high to contribute to either a deductible IRA or a Roth IRA. So am I better off investing in a nondeductible IRA or should I just invest my money in a regular taxable account? — Dennis, Cranston, R.I.

You’re giving up on the Roth IRA too easily.

Even if your income exceeds the Roth IRA income eligibility requirements — and I suggest you check out this calculator to verify whether that’s really the case — you can easily get around that hurdle: Simply open up a nondeductible IRA — which anyone under age 70½ with earned income can do — and then immediately convert the nondeductible IRA to a Roth IRA.

If you avail yourself of this option — colloquially known as a backdoor Roth IRA — before April 15th, you can make the contribution for the 2012 tax year. By doing that, you’ll still preserve the option of making a contribution for 2013 as well.

The maximum contribution for 2012 is $5,000 ($6,000 if you’re 50 or older), while the limit for 2013 is $5,500 ($6,500 if you’re 50 or older). So if you contribute for both years, you can get quite a nice sum into that Roth this year: as much $10,500 if you’re under 50, $12,500 otherwise.

Keep in mind that whenever you convert funds to a Roth, you must pay income tax on any portion of the converted amount that has yet to be taxed. This isn’t likely to be much of an issue if the only IRA you own is the nondeductible IRA you open and then convert.

Related: Your future self thinks you should save more

After all, you made your contribution in after-tax dollars, so those funds won’t be taxed again. The only tax bill you would incur is on investment gains, if any, that accumulate in your nondeductible IRA between the time you opened it and the conversion.

But if you also have money in other non-Roth IRAs — say, traditional deductible or nondeductible IRAs you opened years ago or a rollover IRA that holds money from a 401(k) with a previous employer — then you’ve got to consider the balances in those accounts when figuring the tax on the conversion.

For example, if you have $45,000 in an IRA rollover that consists totally of pre-tax dollars and you contribute $5,000 to a nondeductible IRA that you plan to convert, 90% ($45,000 in pretax dollars divided by your total IRA balance of $50,000), or $4,500, of your $5,000 conversion would be taxable. If your nondeductible IRA had investment earnings, those untaxed gains would have to be included in the calculation as well.

So if you were in, say, the 33% tax bracket, you would owe $1,485 in taxes on the conversion, which means you would effectively have to come up with $6,485 to get $5,000 into a Roth IRA.

But if you’re in this position — that is, you already have money in non-Roth IRAs andwant to get money into a Roth IRA but earn too much — there are two other maneuvers you may want to consider.

If you have a 401(k) plan through work and it accepts IRA rollover money (as most do) you could roll your IRA funds into the 401(k) and then convert your nondeductible IRA. Since you would have no other IRA money, you could convert your nondeductible IRA and avoid taxes (assuming your nondeductible IRA had no investment gains).

The other move you might consider is taking the money that you would have contributed to the nondeductible IRA and paid in taxes to convert that account ($6,485 in the example above) and use those funds to pay the tax to convert as much of the money in any existing IRAs as possible.

This would allow you to get more dough into a Roth than you could via the backdoor method, or nearly $20,000 assuming a 33% tax rate.

If you choose this last route, don’t forget that any pretax dollars you convert are considered taxable income. So moving more money into a Roth could push you into a higher tax bracket and boost your conversion tax bill.

Remember too that converting IRA funds to a Roth IRA — or contributing to a Roth IRA, for that matter — usually makes the most sense if you think you’ll face the same or higher tax rate when you withdraw the money as you did when converting.

That said, unless you’re absolutely sure you’ll face a lower tax rate in retirement, I think it’s a good idea to have at least some money in a Roth account if only to diversify your tax exposure.

Bottom line: if you would really rather invest money in a Roth IRA than a nondeductible IRA or a taxable account, you can easily do so. Okay, maybe “easily” is going too far. But you should definitely be able to pull it off.

MONEY Ask the Expert

Your Future Self Thinks You Should Save More for Retirement


Q. How do I convince my spender husband that it makes sense to contribute more to his 401(k)? — G.L.

A. You’ve got a bit of an uphill battle for the simple reason that it’s a lot more fun to spend than save. Still, I have a suggestion that may be able to help you convince your hubby to rein in his free-spending ways and throw a few more bucks into the old retirement account: Introduce your husband to his future self.

How, you may ask, can you do that? Before I tell you, you first need to know why such a meeting might spur your husband to save more.

Ultimately, saving comes down to foregoing spending money today so you can spend it (plus however much it earns) later in life.

Problem is, research shows that the present day you doesn’t identify particularly well with the older you. Given that disconnect, you don’t have much of an incentive to abstain from spending and the pleasure it can bring today to make life better for this stranger in the future.

But apparently there’s a way to bridge the gap between our current and future selves.

Researchers at Stanford University conducted experiments in which they put two groups of students into virtual reality headgear and had them interact with realistic computer renderings of themselves. But one group was shown only images of themselves at their current age, while the other also saw age-morphed versions of how they may look in retirement.

When each group was later asked how much they would save for retirement, the ones who saw their older selves said they would save twice as much on average as the other group. Apparently they felt more of a bond with their future self and thus were more disposed to do something today to help that person.

You can do a somewhat similar experiment with your hubby. Just have him go to Merrill Edge Face Retirement and click on “Meet the Future You.” After entering his age and gender, he’ll be able to snap an online photo of himself (assuming his computer has a built-in camera) to which the site applies facial-aging software. He’ll then see a series of photos simulating what he might look like at different ages late in life.

The idea is that seeing a version of himself at, say 77, may make him think more seriously about the fact that he’ll still be around at that age and have to support himself in retirement.

The little factoids that accompany the photos at different ages — Cost of a new car in 2034: $62,000; Cost of living increase from 2012 to 2054: 307% — may also help drive home the point that he’ll need a sizable nest egg if he hopes to maintain his lifestyle in retirement.

Related: Take control of your spending

I’m not saying that going through this exercise — which, if only for kicks, you may want to try, too — will lead your husband to immediately boost his 401(k) contribution by 50%. But it could get you both talking about retirement and whether you’re adequately preparing for it.

Ideally, that discussion will lead you and your husband to take some other steps to advance your retirement planning. To get a sense of how you might actually live in retirement, you could check out Ready-2-Retire, a tool that allows you to sort through photos of different retirement activities (traveling, going back to school, etc.) and prioritize them based on how likely you are to engage in them. Once you have a decent idea of what kind of retirement lifestyle you aspire to, you can then go to a tool like our Retirement Planner to see how much you should be saving to achieve that goal.

See whether you’re saving enough

If after checking out these tools you find that your husband is actually putting away enough to assure you’ll both have a secure retirement, that’s great. You can both feel reassured about that.

But if it turns out that your husband really does need to save more, then having him meet a digital version of his future self maybe just the motivation he needs.

MONEY Ask the Expert

Reasons to Cut Back on Stocks in Retirement

Q. Why is the recommended mix of stocks and bonds any different at the beginning of my career than at the start of retirement? I don’t understand why I should reduce my exposure to stocks when I retire, as I’ll still have 30 years of investing ahead of me. — Gordon Groff, Lancaster, Pa.

A. You’re right. You should be investing for the long term — both during your career and after you retire. Still, there are some key differences between those two stages of life that argue for gradually scaling back on equities after you retire.

The single biggest difference is that you have a lot more flexibility during your career when it comes to retirement planning. For example, if you have the bulk of your retirement accounts in stocks and the market tanks, you’ve got plenty of options for rebuilding the value of those accounts.

With years of work still ahead of you, you can simply sit back and wait for the market to rebound and eventually climb to higher ground. Or you can pump up the amount you contribute to your retirement accounts, which will hasten the recovery of your balances.

If worse comes to worse, you can always postpone retirement for a year or two, which will give your nest egg a chance to grow through a combination of additional savings and a few extra years of investment returns.

But if your savings are heavily invested in stocks in retirement and the market takes a dive, you don’t have nearly as much wiggle room.

Unlike during your career when you’re still putting money into your 401(k), IRA or other accounts, you’ll be pulling money out of your nest egg once you retire. And that creates a very different dynamic.

Related: Retirement checkup for the new year

Specifically, the combination of investment losses from a market downturn, plus withdrawals from your account for retirement living expenses creates a double-whammy effect that can decimate the value of your portfolio and dramatically increase your chances of outliving your dough.

As a result, the same market meltdown that may be very unsettling during your career can be absolutely devastating after you’ve retired, perhaps even forcing you to radically scale back your standard of living to avoid running through your money too soon.

Here’s an example. Let’s say you retire at 65 with $500,000 in savings from which you plan to withdraw an initial 4%, or $20,000, that you will increase annually by the inflation rate to maintain your purchasing power. And let’s further assume that you would like your savings to support you at least 30 years.

If you plug that scenario into a good online retirement calculator, you’ll find that the chances of your nest egg lasting 30 years are roughly the same — just under 80% — whether you invest 80% of your savings in stocks and 20% in bonds or split it 50-50 between the two.

And although the calculator doesn’t show this, it’s also true that if all goes well and there are no major blowups in the market, the higher returns stocks can deliver might allow you to draw even more from your nest egg than had you gone with the 50-50 mix.

Related: Market timing — Not a good retirement strategy

The problem is what happens to those odds if things go badly. For example, if you had retired at the beginning of 2008 with 80% of your savings in stocks and 20% in bonds and embarked on the withdrawal scenario above, at the end of the first year of retirement the combination of a $20,000 withdrawal and a 30% investment loss would have left you with a nest egg worth roughly $340,000 — a 32% decline in a single year.

If you continued to withdraw $20,000 and increased annually for inflation of, say 3%, the chances of your savings lasting the next 29 years to age 95 would plummet from a little less than 80% to just under 40%.

By contrast, had you invested half your savings in stocks and half in bonds, the combination of your initial withdrawal and the market downturn would have left you with a nest egg worth a bit more than $400,000.

The probability of your money lasting to age 95 would decline. But since your nest egg wasn’t whacked as hard, the chances would drop to just over 50%.

Clearly, in both cases you would have to make some adjustments — going without an inflation increase for a few years, reducing your withdrawals outright or perhaps even taking on part-time work.

The difference is that with the more conservative portfolio, the compromises you would have to make to your retirement lifestyle wouldn’t have to be as severe. And you wouldn’t be as vulnerable to potential market setbacks in the future.

Now, does that mean that it can never make sense to invest somewhat aggressively in retirement? Of course not.

Related: Emergency funds: Risk versus returns

If income from Social Security and a traditional company pension covered all or nearly all of your annual expenses, then theoretically you may be able to invest quite heavily in stocks.

After all, if your retirement accounts suffered serious losses, you would still have enough income apart from savings withdrawals to maintain your lifestyle (although even then you would have to consider whether you would be emotionally okay watching your nest egg’s value decline by 30% or more).

Bottom line: If you’ll have lots of income flowing in throughout retirement from guaranteed sources — or your nest egg is so large or withdrawal rate so small that your chances of depleting it are truly minimal — then I suppose you could invest the same way late in life as you did at the beginning of your career. But if that’s not the case — and I suspect it’s not for most of us — the more prudent approach is to scale back your stock exposure as you near and enter retirement.

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