It’s easy for me to look back in time and analyze the faults of my twenty-two year-old self. If only I had started saving and investing sooner, I’d be in a better financial situation. My younger self would assume I had forgotten what it was like for me during that time period, when I had barely enough money to make rent, I was still looking for the perfect job, and I managed to avoid many bills for at least a short period of time before borrowing more money from somewhere.
As luck would have it, the older self would be wrong. Had I been in a better financial situation when I was twenty-two, I may have never considered writing publicly about my money situation, which would never have led to my side business, which would never have allowed me to quit my job at age thirty-four, work full-time for myself, sell my business, and become somewhat financially independent. Had I been smarter about money — or at least found a way to be solvent — I might still be teaching or working for a non-profit. There’s nothing wrong with that, and I would probably be enjoying it, but my life would have progressed differently.
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Part of the typical financial advice delivered to new college graduates is to start investing in an IRA (Individual Retirement Account) right away. But I remember what life was like living on Ramen noodles. The thought of having cash to invest was completely foreign. I would have ignored any advice to set aside one percent of my income in a savings account, saving up until I hit had the minimum for investing ready to go. It would have been a mistake, but it’s incredibly difficult to get past that mindset.
Financial preaching of this type often falls on deaf ears, and that’s one reason that there are employers who initiate automated savings; young employees don’t have to think about how to come up with the money because they never see it in the first place.
But once you decide that your retirement is important to you, an IRA is a perfect vehicle because it shelters at least part of your income from tax, either today or when you retire. If your employer offers a 401(k) retirement plan with a match, that might be the priority, but otherwise an IRA comes first.
An IRA isn’t an investment in itself. It’s just a bucket for other investments. You can invest in mutual funds, stocks, bonds, and even some other non-traditional assets, but you don’t have to. You can also leave the cash you designate for your retirement uninvested. Cash is much less volatile than investments, in fact it’s not volatile at all if you’re staying in the same country, but it’s not completely risk free. If you have more of your wealth in cash than you need, you could end up missing opportunities for growth, and the real value of your money will erode over time thanks to inflation.
Despite the opportunity cost, many people do keep cash, cash investments, or cash-like investments in their IRAs. Because of this flexibility, investment banks and broker-dealers are not the only financial institutions allowed to offer IRAs. You can get an IRA at your regular retail bank if you just want to keep that money out of the stock market. In fact, because of the close proximity to your savings accounts, and everything will be in the same institution, banks can make it easier to open and maintain IRAs.
When you compare banks, you will see that many advertise IRAs alongside savings, checking, and certificates of deposit (CDs). Your IRA at a bank is covered under the same FDIC insurance as the other cash you keep there. That means that these accounts will never lose money, and if there’s any sort of problem, the government steps in and covers your deposit up to the insurance limit. In the 80 years of the FDIC’s existence, no retail banking customer has ever lost money due to a bank failure.
On the other hand, money invested in an IRA at a brokerage is different. Investments are protected with SIPC, which is a non-profit organization, not a government agency. SIPC doesn’t protect investors against losses; investments frequently lose money. SIPC exists so that if an investment bank fails, customers can still retrieve the value of their investments up to the protected amount. Investment banks might offer a money market fund as an investment option for IRAs, and that’s as close to cash as you will probably be able to get. Money market funds (unlike money market accounts) can lose money, and SIPC doesn’t protect against that loss.
For this reason, if you want to invest in cash for retirement, particularly if you are close to the age at which you want to begin withdrawing your retirement funds, you may want to consider an IRA at your retail bank rather than your investment bank. It also removes some temptation to use the money to invest in riskier assets like stocks.
Before you invest in an IRA at your bank, compare rates and fees. Certificates of deposit can often provide higher rates than savings or money market accounts, but you might have to pay a penalty or lose some accrued interest if you withdraw before the term of the CD is expired. You shouldn’t need to choose an account that requires ongoing maintenance fees; there are enough banks that offer free IRAs that you don’t need to waste your time on anything else.
Some accounts offer bonuses to new customers, too. Account opening bonuses help boost your interest income from your cash in a short time frame, and I’ve used account opening bonuses to increase my effective annual interest rates significantly.
One such bonus is currently being offered by Ally Bank. Ally Bank is a favorite among financial experts; the bank recently won Plutus Awards for best savings account and best checking account. I had an account with Ally Bank for a couple of years before closing it in a financial simplification process that I haven’t yet completed.
Ally Bank is offering a $250 bonus to new and existing customers.
This year through May 31, new and existing customers can receive a $250 bonus for depositing $50,000 into an IRA at Ally Bank. The deposit has to come from an external source, so you can’t just transfer the money from an Ally savings account to the All IRA and expect to receive the bonus. Banks offer incentives like these as an attempt to attract new customers and to increase cash on hand.
You can’t normally just contribute $50,000 to a traditional or Roth IRA. Tax-advantaged retirement accounts have annual limits that are much lower than $50,000. You may be able to contribute $50,000 to a SEP IRA, but that account type pertains only to self-employed individuals and their employer contributions. Ally expects that most people searching for this bonus have retirement investments elsewhere that can be transferred directly into an IRA at Ally, a process that’s called a rollover.
The $250 bonus on a $50,000 investment works out to almost a 0.5% interest increase, assuming the money stays investment in the account for the entire year. But because the $250 bonus is being paid in July, the funds must only remain in the account that long, making the effective annual interest rate increase closer to 1%, assuming you take the money and run after the bonus. I am not recommending this tactic; I’m just describing the mathematical consequence. Whether you leave your IRA at Ally until July, until the end of the year, or until the end of your retirement, the bonus is still $250.
When you open an IRA at Ally Bank, you choose among the bank’s savings products, including High Yield CDs, Raise Your Rate CDs which have the option of adjusting interest rates once or twice throughout the term to take advantage of raising market rates (assuming rates will continue to increase), and the Online Savings Account. The Raise Your Rate CDs offer the highest interest rates now, but your money is locked in the account for a longer period of time than it is with the other cash-like options.
Today’s rates, especially those for the CDs that are locked in for a longer period of time, reflect the assumption that interest rates will rise in the future. The Raise Your Rate CD is probably the best bet today, but if rates increase too quickly, Ally could cease offering the product. That’s not necessarily bad, but it does mean that when your CD matures you would have to choose a different investment type. That could be either a standard CD, a savings account, or a new cash-like product developed by the bank.
Because you can invest in cash in an IRA at a bank, and you can make certain withdrawals from a Roth IRA without any tax consequences and penalties, the combination is ideal for at least part of an emergency fund. When cash flow is tight, an account like this can perform a double duty. It’s your retirement fun on one hand, while it can serve as a short-term emergency fund. If you never have to withdraw your money for an emergency, you’ve saved for retirement, and if you do have an emergency, you have an incentive to replenish the account quickly to avoid the missed opportunity of investing in an IRA that year.
Updated September 23, 2015 and originally published January 14, 2014.