How to Invest in Your 40s
Have you already celebrated your 40th birthday and had all your friends and family offer advice on where you are in life or how your life will change? Ignore all of that. What you shouldn’t ignore is that your 40s are a crucial decade in your financial life. Here are a few pieces of actually useful information for investing in your 40s.
It begins with building a solid financial foundation. Everyone needs to prioritize things like having an emergency fund with enough cash to cover essential expenses for a few months and paying off high-interest debt. That puts you in a good position to save for your biggest financial goal: retirement. If you’d like it to be comfortable, this means living off about 80% of your working salary from age 67 for as long as you live. For the average American, that means having around a million dollars saved up. So, for most people, contributing as much as possible to tax-advantaged investment accounts like 401(k)s and IRAs in your 40s is as important as ever. If you’re still working on these fundamentals, don’t worry, there’s still time to catch up. If you’re on track already, congratulations! But that doesn’t mean you’re all set.
Your 40s are a good decade to learn more about managing risk and taking steps to protect what you’ve saved so far. The simplest way to do that is to keep an eye on the mix of investments you have in your portfolio. For example, if your employer offers compensation through company stock, make sure you don’t have too much of your portfolio tied up in a single investment. Instead, make sure your money is spread across companies of different sizes, industries, and that operate in different countries. This is called diversification and can help reduce the total risk in your portfolio if a stock you invest in loses value.
And as far as your stocks-to-bonds ratio in your overall portfolio, you’re probably still looking for growth, which means investing in stocks. However, unlike your 20s and 30s, if you were at, say, 90% stocks/10% bonds you may want to shift from to an 80/20 mix. Of course, depending on your circumstances and personal risk tolerance, it may make sense to allocate more to bonds, say 50% stocks and 50% bonds. Stocks have a track record of outperforming bonds, but the potential for higher returns does come with higher risk of loss. Because you’ve got a little less time to recover in the event of a market downturn, shifting a little more of your portfolio to bonds in your 40s may help reduce risk.
But the market downturns aren’t the only risk to watch out for. Your 40s are a good time to make sure you’re protecting your retirement savings from unnecessary taxes. We already mentioned tax-advantaged retirement accounts like 401(k)s and IRAs. But there are other types of tax-advantaged investment accounts. For example, if you have access to a high-deductible health insurance plan, you may be able to take advantage of a health savings account, or HSA. HSAs allow you to set aside and invest money that you can withdraw tax-free to pay for eligible medical costs now and in the future. And after age 65, you can withdraw from an HSA for non-medical expenses without incurring any penalty and simply paying income taxes, much like a traditional IRA. If you’re generally healthy and don’t require regular medical attention, an HAS can be one of the most tax-efficient ways to help save for retirement.
There are also tax-advantaged accounts for other types of financial goals you may face in your 40s, like saving for a child’s education. Education-savings plans like Coverdells or 529s allow you to invest money and get potential tax benefits for qualifying educational expenses.
You can also be smart about which types of accounts you put certain investments in. For example, you could put tax-inefficient investments like preferred stock and high-yield bonds in a tax-advantaged account, and more tax-efficient holdings like common stock or municipal bonds in taxable accounts to help reduce your overall tax liability.
In taxable accounts, you can also take advantage of your losses. The IRS actually allows you to write off certain investing losses, which can help offset some of your taxes on gains. For example, tax-loss harvesting is a strategy that involves closing certain investments to intentionally realize losses that reduce your tax liability. Many brokerages offer automated tax-loss harvesting services, but it’s not right for everybody, so be sure to check with a qualified legal or tax advisor.
Now, even if you’re using good risk management techniques and tax-efficient investing strategies, another financial challenge you may face in your 40s is increased complexity. For example, maybe you’ve worked for a handful of employers and have more than one 401(k) out there. Having money spread across multiple accounts can make it more difficult to manage. You could consolidate your old 401Ks into your current employer’s retirement plan or into an IRA through a process called a rollover. Consolidating your retirement accounts can simplify your finances and may provide benefits like more investment choices and lower fees. However, depending on your situation, there could be downsides like negative tax consequences or delayed access to your savings.
Of course, a rollover is not your only alternative when dealing with old retirement plans and there’s no one right answer for everyone, so be sure to do your homework.
Ultimately, as your financial life becomes more complex and major financial goals like retirement draw closer, it may be helpful to speak with a financial advisor. These advisors can help you navigate a specific financial goal, like buying a house or paying for a child’s education. They may also be able to help with things like insurance, tax guidance, debt counseling, or simply building a long-term financial roadmap. Regardless of your situation, a qualified advisor can help you make sense of your finances.
So, while there may be some unique investing considerations in your 40s, a lot of the same financial principles apply: building a solid foundation by having an emergency fund and paying down debt, utilizing diversification and tax-advantaged accounts, and getting guidance when you need it. If you take all these steps, you’ll have plenty of time to sit back, relax, and count the many ways you’re becoming exactly like your parents.