Now, let’s see if we can take the slice and dice portfolio option and make it a bit simpler, and hopefully avoid all extra fees.

Theoretical Allocation
20% S&P 500 (VFINX or VTGIX)
20% Large Cap Value Index (VIVAX)
20% Small Cap Value Index (VISVX)
10% REIT (VGSIX)
20% Total International Index (VGTSX)
10% Intermediate-Term Bond (VFICX)
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Man, figuring out a good set of funds to work into your asset allocation plan is hard! There are so many different funds to choose from. So I’ve decided to break it down into three possible scenarios that I can then choose from, varying from complex to super-simple. The first scenario is to pick a variety of funds that each focus on a specific asset category. This will result in more complexity and possibly higher fees, but in theory may result in better long-term returns.

First, I’ll list the funds that I would use in theory, and then I’ll list how they would actually fit in reality into our two Roth IRAs, one Traditional IRA, and taxable accounts. The goal is to put the most tax-inefficient funds into the most tax-deferred accounts.
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Well if you’re going to try and change your portfolio, you might as well take a ‘Before’ snapshot for comparison later. I entered our retirement account holdings as of today into Morningstar’s X-Ray tool and got the following asset allocation:

This is based on our current holdings of only two mutual funds:
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For those that have an Roth, Traditional, or SEP IRA at Vanguard like me, you probably noticed that they charge a custodial fee of $10 a year for each mutual fund you have with a balance of less than $5,000. This can add up if you own multiple funds in different IRAs. The only way to get around this is if “the IRA owner?s Vanguard account assets (including IRAs, employer-sponsored plans, brokerage accounts, annuities, and nonretirement accounts) total $50,000 or more.”

I just discovered that for joint accounts, the total value goes towards both account holders. For example, if my wife and I hold a joint taxable account with $50,000 in it, we would both be exempt from IRA custodial fees no matter what our IRA balances were, even though the $50k is shared between us. Might be helpful for those near the threshold.

Now that I have decided to stop spending time learning to trade individual stocks, I want to focus instead on optimizing our retirement portfolio. Right now we have almost $50,000 in retirement accounts, and if I liquidate my stock positions and start adding money regularly to a taxable brokerage account we can keeping building on that. That seems like enough money to split in between some different mutual funds to achieve a more specific asset allocation.

I intend to choose an asset allocation based on Modern Portfolio Theory, which tries to achieve the greatest return for a given amount of risk. Or the least risk for a given long-term expected return. There is lots of math and research behind it, but I’ll get more into that later. I’ve gone ahead and ordered a book dedicated to this, The Intelligent Asset Allocator by William Bernstein, to be my main resource. My overall goals are to (1) make my portfolio optimized with minimal expenses and (2) make it easy to maintain and continuously add money to.

I’m sure some of you are motivated to do avoid some of the financial mistakes shared yesterday. A good way to start is by funding yourself an tax-advantaged IRA. Fidelity has come out with a pretty decent product for this – their SimpleStart IRA. You just need to commit to contributing $200 a month ($2,400 a year) to the IRA, and you can avoid the $2,500 initial minimum investments of many of their funds. Also, as you are not paying any trade commissions and there are no annual maintenance fees, more of your money is going towards your investments.

Fidelity’s Freedom Funds, which are automatically rebalanced based on your planned retirement timeframe, are a good simple option I would recommend for those without strong opinions otherwise. This is just one option I’m throwing out there. Either way, get started!

Added: I’ve done a more thorough comparison of ‘IRA Options For Those Starting Out‘, including brokers that require a committment of only $50 per month.

Simplified Employee Pensions, or SEP-IRAs, are a retirement account available to both small business employers and employees under certain requirements. Although I’m sure they are covered more thoroughly elsewhere, I wanted to jot some notes down focusing on the self-employed, that is, you are both the only employer and employee all rolled into one. Beware, during my research I found a lot of outdated and thus inaccurate information online.

Who’s Eligible?
Anyone who has any amount of self-employment income, even if you already have a retirement plan with your other job.
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Before I finish my taxes, I’ll have to decide how I want to put some of my self-employment income away for retirement. I didn’t know there were so many options! In addition to the usual Traditional and Roth IRAs, I could also do use any of the following:

• Simplified Employee Pension IRA (SEP-IRA)
• Savings Incentive Match Plan for Employees IRA (SIMPLE IRA)
• Keogh Profit-sharing Plan
• Individual, or Solo 401k’s
• Solo Roth 401k’s

I’m definitely going to explore all these options soon, but due to their deadlines the only one that I can actually use for 2005 income is the SEP-IRA, which allows me to open and fund it as late as the extended deadline for tax returns. Gotta love easy decisions.

Before I started this blog in late 2004, I didn’t know squat about managing my money besides not to spend it all. Although I’m sure I could have done much worse, let’s see where I was 5 years ago:

1) I didn’t max my IRAs out. Even though I was pretty broke and living on less than $20k a year, I should have tried to max them out. I think I only put $500 in my Traditional IRA for the first year, and $1000 the next.

2) Instead, I paid off my student loans. Even though I was still in grad school and therefore was paying no loan interest at all, I put all my excess money towards student loans even at the expense of not maxing out my IRAs. Think of all the tax-free gains I could have earned!
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Almost exactly a year ago, I pondered whether to convert my Traditional IRA into a Roth IRA. I ended up not doing it right away after realizing that I might hit the ceiling that limits conversions to those with a modified adjusted gross income (MAGI) of $100,000 or less. The same ceiling applies for both a single person and a married couple’s combined income! And if you go the married filing separately route, you can’t convert your IRA at all. I never understand these marriage penalties.

Of course, then I quit my job in July so I should have just gone ahead and converted it. But then I thought, maybe we might even end up in the 15% tax bracket for 2006! That would really save on taxes. But it doesn’t look like it (which is a good thing of course.) So we’ll most likely convert this year. Some additional things I want to take into account are:
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Not saving for retirement? Need a good excuse why? Not to worry – here are some 25 ideas for you, all for free!

1. I’m young, I need to enjoy life.
2. I’m too old, it’s too late for me.
3. I’m scared of money. It’s too complicated.
4. It’s all the credit card company’s fault.
5. Interest rates are still pretty low. Borrow now!
6. I don’t have enough time in the day.
7. I have to pay for my kid’s college.
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Right now I’m reading Yes, You Can Still Retirement Comfortably! by Ben Stein and Phil Demuth, at the recommendation of my friend Trip of Musing Money. So far it’s pretty good. I’m not quite done, but as part of the book it gives you a step-by-step procedure to estimate the nest egg that you’ll need when you reach your desired retirement age. It’s all based on historical market returns and life expectancy charts which I’ll leave to those who buy the book, but here are the rough results for my wife and I together:

1) Estimate Post-Retirement Income Needed. A suggested estimate is 80% of your (expected) final salary when you retire. I’m going to estimate this at 80% of $120,000, or $96,000.
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