Put saving for retirement ahead of paying down a mortgage

Dear Liz: My husband and I are fortunate to be in relatively good financial shape. We both plan to retire in 10 years when we turn 60. We have zero credit card debt and no loans except our mortgage, which is at 4.5% for 15 years. With any additional funds should we max out our 401(k) contributions, contribute to Roth IRAs or pay down the mortgage?

Answer: Generally, you’ll want to make sure you’re on track for retirement before paying down a mortgage. Your priority usually should be contributing at least enough to your 401(k)s to get the full company match, and then contributing the maximum to Roth IRAs. This puts money in retirement “buckets” that get different tax treatment — withdrawals from 401(k)s are typically taxable as income, while Roth IRA withdrawals typically are tax free — and that allows you to have more control over your tax bill in retirement.

If you have additional money to contribute to your goals, you’ll have to decide whether to pay down your mortgage, put more into your 401(k) or contribute to a taxable account earmarked for retirement. (This latter option would give you yet another tax bucket — one where you can qualify for capital gains tax rates.)

It’s good to be mortgage-free when you stop work, but if your retirement savings aren’t adequate, you should be bolstering them now. Ten years from retirement is a good time to consult with a fee-only financial planner to discuss your individual situation, reality-test your retirement plans and fine-tune your investments.

Dear Liz: I have credit scores around 650 with about 15 negative marks on my credit reports over the last seven years because of overdue doctor bills that averaged $40 and were eventually paid by insurance. Here’s what I don’t understand: My annual income is $200,000; I pay annual bills (most automatically through direct deduction or credit card debit) of more than $100,000 on time, and I have three Visa cards with $28,000 in credit availability and average balances of $6,000. Yet my credit score is horrible, my insurance rates are inflated and my mortgage rate is higher than I would like even though I never defaulted on a payment due. How can scoring systems neglect to factor in the “big picture”?

Answer: Your credit scores aren’t horrible, merely mediocre. And they could be much worse — more on that in a moment.

First, you need to understand that credit scores weren’t invented to judge the big picture. They were created to do one thing: to help lenders assess a borrower’s risk of default based on how the person has handled credit in the past.

Credit scores don’t factor in income, job stability, available assets or any number of other factors that lenders may take into account. But as you’ve discovered, the scores tend to react badly to unpaid bills, even if you pay your other debts on time.

The good news is that the most recent versions of the FICO formula, the one used by most lenders, ignore small collection accounts in which the original debt was less than $100. So it’s probably only the larger doctor bills that are still affecting your credit.

In any case, you can try disputing the collections to see if they’ll come off your credit reports. Sometimes creditors will delete a collections account, especially if it’s small, old and paid, rather than continue reporting it after a dispute.

You can help prevent future damage to your scores by monitoring all your doctor bills closely. Your goal is to prevent them from being turned over to collections or being reported to the credit bureaus at all. That may mean calling the doctor and your insurance company monthly to check on the progress of any reviews that are delaying payment; in some cases, you may need to pay the bills and seek reimbursement from your insurer. Yes, it’s a hassle, but it’s better than another blow to your scores.

You also may want to dial down how much of your available credit you’re using. Reducing your credit use to 10% or less of your available limits may help boost your scores.

Liz Pulliam Weston is the author of the book “Your Credit Score: Your Money and What’s at Stake.” Questions for possible inclusion in her column may be sent to 3940 Laurel Canyon., No. 238, Studio City, CA 91604, or via the “Contact Liz” form at https://www.asklizweston.com. Distributed by No More Red Inc.