One $5,000. contribution in January?

[Guest Gracey]

Hello everyone!

I managed to save the $5,000. for my 2013 roth contribution a little early this year, and will be able to deposit the whole sum in January of 2013. Are there any disadvantages to doing it this way? Should I spread the $5,000. over the entire month of January with seperate transactions on different days, or is it better to do it in one lump sum? Does it make a difference either way? In the past I have always made my contributions on a monthly basis, as I never had the entire amount at one time. It is a target retirement fund if that makes a difference. Any feedback would be greatly appreciated. Thanks, Gracey

[K2retire]

I am not qualified to give investment advice. But I can tell you that there is no one answer that is right for everyone. One theory suggests that investing the entire amount as soon as possible give your money the maximum time in the market to grow. Another suggests that dollar cost averaging over time is more lucrative. Predicting which will be the more lucrative choice in 2013, based on the recent market volatility, would require a very accurate crystal ball.

[masteff]

To expand on K2's answer slightly...

You need to separate two events: contribution and investment. Just because you contribute the money into your Roth IRA on 1/1/13 doesn't mean you have to invest it all immediately. You could put it into a money market fund and then do dollar cost averaging as K2 notes.

Of course, as he also notes, it's impossible to predict which way will be optimal. While it might be suboptimal, generally speaking doing something is better than doing nothing.

[John G]

Early contribution means less outside taxable income and a longer investment period. However, putting all the money in early is separate from making allocation decisions. For example, you open an account at Schwab/Etrade/Fidelity/etc. with $5,000 that can initially be kept in cash - you are not forced to make bonds vs stock decisions on day 1.

Since you can always remove Roth contributions, you still retain a lot of flexibility if you fund early in the year with a single lump.

Some investment houses give you breaks on fees if you make monthly contributions, but almost everyone has moved to zero fees for Roths with over $5,000 so that is probably not a factor.

Dollar cost averaging is an investment method where you replace a single lump investment with periodic investments (such as monthly). When markets have slumped, you end up purchasing more shares. It has a built in "buy low" bias which helps some folks who are prone to overreact to market swings, getting nervous and selling when the market drops. DCA vs initial lump is a tough call as there are circumstances when one is slightly superior to the other.

What you want to avoid is a paralysis based upon trying to make a perfect investment decisions. If this is a problem for you, then choose either the DCA or lump and get it done this month. Then sit back, relax, and let "time" be your friend.