What Order to Contribute to Long-term Investment Vehicles

You know you need to be investing, putting money away for a rainy day, but it's just so difficult! You're barely getting by as it is, and when you do have extra money, the choices seem so overwhelming: 401(k)'s, IRA's, CD's…Where do you put that extra little bit to maximize its potential?

There is a very definite order in which you should invest for retirement, based on solid principals of financial research. Outlined below is everything you need to know about where to put your money in order to make your retirement secure.

1. 401(k) or 403(b) up to the company match. Many companies will match anything you contribute up to a certain percentage of your salary. For example, a company might chip in $0.50 for every $1 an employee contributes to his/her 401(k) up to 6% of the employee's salary. If your company offers a match on part of your contributions, this should be your first stop-but only to the point of the match. In the above example, the employee should contribute 6%. Why should this be first? You won't find a guaranteed return equal to that of your company match. Using the above example again, this employee gets an automatic, no-risk return of 50% on every dollar contributed. Not investing up to the maximum point of the company match is like saying, "I don't want that extra paycheck…You can keep it!"

2. Bad debt. Once you've squeezed all you can out of your company, it's time to turn your attention to bad debt. Bad debt can seriously put a dent on your retirement, as well as your lifestyle in general. Bad debt is usually classified as credit cards or unsecured loans, other than student loans. Most of this debt has high interest rates and can ruin your credit score. Paying it off is like getting a return equal to the interest rate on the debt. For example, if you have a balance on a credit card that has an interest rate of 18%, paying that debt off will give you an 18% return on your money. Not too shabby!

3. Roth IRA. Ok, now you're debt-free and ready to keep investing. Back to that 401(k), right? Wrong! Assuming you're still contributing up to the point of your company match (or not at all if there is no company match), your next stop should be a Roth IRA. You can open these at any bank, mutual fund company, or discount broker. A Roth IRA has many advantages, including the fact that withdrawals in retirement are never taxed. Not only that, but any contributions you make (which can total up to $5000 in 2006, depending on age and income) can be withdrawn at any time for any reason tax- and penalty-free, so it's a good emergency cushion against financial emergencies. Speaking of which…

4. An Emergency Fund should be your next investment. Having an emergency fund outside of retirement accounts can help you weather financial storms without taking away from your future. How much you keep in your emergency fund depends on your situation, including job stability and monthly expenses. Most financial planners recommend that you keep enough to cover 4-6 months of expenses, just in case.

5. 401(k) or 403(b) beyond the company match. Once you've got an emergency fund in place, you should return to your trusty old company retirement plan. Now you should max out your 401(k) or 403(b) (or other company retirement plan, such as the Thrift Savings Plan). If you aren't eligible for a Roth IRA, but are eligible for a deductible, traditional IRA, you should also max that out. Since contributions are made with pretax income, you won't miss the money you put in as much as you think you will. And every dollar you put in will be waiting for you when you retire.

6. Non-deductible IRA and/or college account. Finally, after you've maxed out all the above options (good job, you!), contribute to a non-deductible IRA or a college savings vehicle such as a 529 plan or a state prepaid tuition program. Your retirement options should come before college planning, though, because your children can get student loans for college, but you can't get loans to fund your retirement.

Following the order of these accounts will maximize your growth opportunities as you plan for your future. And the more your money grows, the more you'll be able to enjoy it…and share it with the loved ones surrounding you! After all, that's the real bottom line, isn't it?