Sushi Money

Like different types of Makizushi, or simply “Maki”, an IRA can be an amazing combination of many assets all rolled into one. We’re going to talk about mutual fund investing and increasing the power of your IRA! This discussion is not about what an IRA is, or if you are qualified to open one- we will assume you have some idea of the basics (if not, look here!). Personally I favor the Roth IRA if you’re eligible. Most taxpayers are, and the beauty is that qualified future withdrawals will be tax free under current law.

My analogy with Maki is simple: Your IRA does not have to be comprised of one or two stodgy funds that you remain committed to, or change every few years after gut-wrenching analysis. And why should it be? Your IRA can hold nearly any combination or flavors of investment vehicles. Asset allocation and diversification are not only relevant to your entire portfolio, but should also be used as a tool within your IRA. Common sense to some, but many people are under the assumption that IRA’s are not very flexible for the type or combination of assets they hold within the IRA. Perhaps because of confusing jargon and legal descriptions, many people are also hesitant to make changes to their IRA due to potential tax consequences. But you don’t have to be hesitant, as long as you are not withdrawing funds from the IRA itself. (If you are making a qualified, intentional withdrawal then this obviously doesn’t apply). Even if you do take money from the IRA by mistake- if you “rollover” the funds back into the IRA within 60 days you should not incur tax penalties.

The strategy I prefer for managing an IRA is simple. Find a good low cost mutual fund or brokerage company like Vanguard, and over time diversify your IRA contributions to different funds you believe will achieve your objectives. In either case, let’s say you are adding to your Roth IRA with a $4000 contribution for 2006 or 2007 (you still have until April 17th to make a contribution for 2006!!!). Do you need to put that money directly into the same fund you already have? No! Consider other funds that will meet your current or long-term objectives and put the money into a new fund. Many funds have minimum requirements of anywhere from $500 to $3000 or more to be opened, so choose carefully. You can even open a different IRA at a different institution if you desire- there is essentially no limit to how many IRA’s you have. The real limits are established by law in terms of an annual contribution maximum for how much you can contribute in total to any or all IRAs in a given year. I like to keep my IRA with one institution to minimize administrative issues.

But here’s the key to the strategy: Use one of your IRA contribution years to fund and open a good money market fund within your IRA such as the Vanguard Prime Money Market Fund (VMMXX). Now that you have this money in the money market fund, within your IRA, you can choose to sweep that money into any other fund, at any time that you desire, based on the institution’s minimum investment requirements! And vice versa… let’s say you are uncomfortable with the market’s direction at some point- you can sell all or a portion of a fund held within your IRA and “sweep” the cash back to your money market fund, also held within your IRA. Or you can move or re-balance other funds within your IRA at a later date… what a great tool for re-balancing a portfolio over time! There are no tax consequences because all funds and transactions remain within your IRA. (There may however be fund company or brokerage firm consequences- if you sell all of a given fund, or reduce a fund below a certain balance, the fund or brokerage company may close you out of that fund and not allow transactions to the same fund within a period of time. Look at the company guidelines for your fund before doing this.) But in general, you now have increased your flexibility within the IRA for how you manage your assets.

I’m not advocating market timing in any sense, and I strongly believe in long-term investing for an IRA. However there are times when we may need the flexibility of having choices… and using a money market fund as a placeholder within your IRA can be a very helpful tool. So that’s it- supercharge your own IRA with flexibility! You can then a) know that you are not stuck in a fund or asset allocation that makes you uncomfortable, b) do your IRA investment research in a thoughtful manner over time, and c) choose the funds or assets that are most appropriate for your objectives. Talk with your financial planner or investment advisor if you want more information. Moving mutual fund investments around frequently is not a good strategy to achieve long-term returns. But you can do more with your IRA than at first glance!

For more news about the Roth IRA.

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