Senate Cents: A Financial Wellness Blog

Key takeaways

• If you're paying off multiple loans, pick one to pay off first and throw as much as you can at the balance each month.
• Evaluate your tax strategy. Reducing or deferring taxes could help your money work harder for you.
• Think about your home equity and weigh the pros and cons of moving in retirement.

Like exercise or diligent flossing, good financial habits are the unsung heroes of personal financial success. It doesn't matter where you start, practicing small steps, like saving regularly or putting extra payments toward debt, can help you accomplish your larger goals. That may explain why so many people set financial resolutions each year.

More than half of Americans, 53%, say they aim to save more in 2020, 51% plan to pay down debt, and 35% say they will spend less in the new year, according to Fidelity's 11th annual New Year Financial Resolutions Study.¹

Once your good habits are established, consider these steps that could help you go even farther.

Get out of debt and save more

Consider these 2 common strategies for tackling debt: the snowball method and the avalanche method.

The snowball method starts with your lowest balance loan. Pay it off as quickly as possible. It feels good to have one less payment each month—and frees up some money you can then use to pay off the next lowest balance. As loans are paid off, you then apply the payments that were going to the paid-off loan to the next one. So the amount you're able to funnel into extra payments gradually grows—like a snowball.

The avalanche method starts with the highest interest rate loan. After you pay it off, you can put those payments toward the loan with the next highest interest rate. This method can save you the most money in the long run because you're chipping away at the most expensive loans first.

It can be a good idea to pay down high-interest rate debt like credit card balances first and then tackle loans with interest rates over 8%, like private student loans for example. After you've knocked down some debt you'll have more money to save and invest for the future. If you don't have an emergency fund or need to refill it, consider saving enough to cover 3 to 6 months' worth of essential expenses. Then think about saving 5% of your after-tax income for unexpected expenses.

Manage taxes

You may have opportunities to save money on taxes—now or in the future. Consider reducing income taxes this year by saving in tax-advantaged accounts like a traditional IRA or a 401(k). These types of tax-deductible or tax-deferred accounts let you take a tax deduction for eligible contributions for the year, which can help reduce your current taxable income.

Roth accounts offer their own tax benefits. Although you cannot deduct contributions, withdrawals in retirement are tax-free as long as certain conditions are met.² And Roth IRAs have no required minimum distributions in retirement. You may be able to contribute directly to a Roth IRA if you meet the income eligibility requirements, or indirectly by converting a traditional IRA to a Roth IRA. Some employers also offer Roth 401(k)s.

If you're already living in retirement, it's important to have a tax-smart withdrawal strategy. If you are over age 70½, you'll generally have to take annual required minimum distributions (RMDs) from traditional tax-deferred retirement accounts like traditional 401(k)s and IRAs and pay taxes on those withdrawals.

But when it comes to withdrawals beyond RMDs, managing federal income taxes may be easier if you're able to choose which account to draw from—and when. If you prefer to withdraw from only one account at a time to keep things simple, it generally makes sense to withdraw first from taxable accounts, like a brokerage or bank account, followed by tax-deferred accounts, such as a traditional IRA or 401(k). In most situations, tax-exempt accounts—Roth IRAs and Roth 401(k)s—should come last, which allows your savings to grow tax-deferred as long as possible.

Another more sophisticated withdrawal strategy involves limiting your withdrawals from taxable and tax-deferred accounts to an amount that brings your taxable income to the top of your current tax bracket. To avoid being bumped into a higher bracket, you would then cover any remaining income needs from your tax-exempt accounts, such as Roth accounts. This strategy can be complex, however, so be sure to consult your tax advisor.

Read Viewpoints on Fidelity.com: 3 ways to manage your retirement withdrawals

Catch up on retirement savings

Once you're over age 50, you get the opportunity to start making catch-up contributions to your retirement accounts.

• In 2020 you'll be able to save $19,500 in a workplace savings account like a 401(k). If you're over age 50, you can save an extra $6,500.
• The IRA contribution limit in 2020 will be $6,000—plus $1,000 for catch-up contributions, again if you're over age 50.

Save for health care expenses in retirement

Health savings accounts (HSAs) can help you save to pay for qualified medical expenses, now and in retirement. If you have an HSA-eligible health plan at work or in the private marketplace and you haven't yet enrolled in Medicare, you may be able to contribute to an HSA.

HSAs offer a tax-free³ way to save and spend on medical expenses.

• Your HSA contributions are either tax-free or tax-deductible.
• You can spend your money tax-free on qualified medical expenses.
• Any growth is tax-free too.

Consider saving enough money to cover your deductible so you can pay for qualified medical expenses—tax-free. Then, if you're able to save beyond that, you can make your HSA work harder for you by investing some of your money and seeking growth for the future.

Read Viewpoints on Fidelity.com: 5 ways HSAs can fortify your retirement

Revisit your real estate strategy

If you're like many Americans, your home may be your most valuable asset. Homes can also account for a significant amount of your spending. That makes it worth considering the financial side of homeownership, along with the other facets of your home, as you build your retirement plan.

If you want to consider using home equity to pay expenses in retirement, your options include a reverse mortgage and a home equity line of credit. But perhaps the most common approaches to reducing your housing expenses are downsizing to a smaller home in the same area, or relocating to a less expensive area, or combining elements of both—relocating to a smaller home in a less expensive area.

Read Viewpoints on Fidelity.com: Should you move in retirement?

Review your investment mix

If it's been some time since you reviewed your investments, now may be the time. It may be an opportunity to see if your investments still line up with your ability to withstand market volatility and your time frame.

If you're getting closer to retirement, your time horizon for saving and investing is getting progressively shorter too—and that can mean that it's time to adjust your investment mix to be a little more conservative.

Once you're in retirement, you'll likely start taking withdrawals from your savings and that may require a new strategy to help make sure your money will last throughout retirement and grow with inflation.

At Fidelity, we believe your retirement investment plan should include these 3 building blocks: guaranteed income (like Social Security or other income you can count on) to pay for essential expenses, growth potential to help keep up with inflation, and the flexibility to modify your plans as your needs change over time.

If you're not sure how to build your retirement income plan, try using our Planning & Guidance Center or connect with an advisor to get more personalized help.

This article originally appeared on Fidelity.com/veiwpointsOpens in New Window. To read the article in its original posting please visit https://www.fidelity.com/viewpoints/personal-finance/new-year-financial-resolutions .