Perks and Problems With the New myRA

President Obama announced in his State of the Union address a new type of retirement savings account, the "myRA." We recently interviewed Christine Benz, Morningstar's director of personal finance, to get an overview of the myRA, as well as her take on the pros and cons of the new savings vehicle.

Question: Can you explain the structure of the myRA? How do they work?

Benz: A good way to think about them is that they are Roth IRAs with training wheels. In fact, they're technically classified as Roth IRAs.

The idea is to encourage people who do not have access to company retirement plans to save and invest. The money will go into the account through payroll deductions, and people will be able to start contributing at very small levels.

Before the myRA, people who maybe had only $25 or so to invest were shut out from a lot of investment houses. The idea is to allow them to put money to work, start saving, and accumulate a little bit of a nest egg. Then they can proceed to invest in actual securities once they've amassed a little bit of a sum.

Question: These new accounts are essentially like Roth IRAs. What does that mean from a tax perspective?

Benz: It means that you put aftertax dollars into the account, your money compounds on a tax-free basis, and then you're able to take tax-free withdrawals.

Another thing to note about this: As is the case with Roth IRAs, you're able to withdraw your contributions at any time and for any reason without any strings attached.

Question: There are limits on how much you can put into a Roth IRA. Will there also be limits on how much you can put into this type of account?

Benz: Yes. In fact, any contributions that you make to a myRA will count against your Roth contributions. You're able to contribute $5,500 per year if you're under age 50, and $6,500 if you're over age 50.

Question: You mentioned that these are like Roth IRAs with training wheels. What do you mean by that?

Benz: The key difference is the type of investment that's available in the myRA. Any money within these accounts is going to be invested in government bonds with maturities of four years or more. However, unlike investing in government bonds outside of a myRA, where you would have interest rate risk, these will be guaranteed bonds. So, people will not have the chance of losing principal, but nor will their money grow at a rate that it might in higher-returning securities.

Question: How much money do you need to start one of these accounts, and how much is the minimum additional investment per month?

Benz: You can start with as little as $25, and thereafter you'd have to contribute as little as $5. But you could also nudge up your contributions if you're able to do so.

Question: As with Roth IRAs, there are some income limits. If you make over a certain amount, you can't contribute to a Roth IRA. What's the income limit for these types of accounts?

Benz: A lot of people were looking at myRAs and saying, a-ha, I'd like to get my hands on that guaranteed return on my money. But you need to have income of less than $129,000 if you're a single filer or of less than $191,000 if you're part of a married couple filing jointly.

Question: Is there any sense of when these accounts will be available?

Benz: It sounds like they're going to start piloting some programs later in the year, and the programs will run across a gamut of employer types. It's not just starting with small employers; some larger employers who do not offer company retirement plans currently are going to be piloting the program, too.

Question: Investors looking at this account have some pros and cons to consider. On the pro side, these accounts really seem to be aimed at smaller savers or people who are just getting going. What is the advantage for them versus just opening a Roth IRA?

Benz: There are a couple. First of all, you'd be really hard-pressed to find someone to take your money on a no-load basis if you have less than $1,000 to invest. The group of investment providers who will deal with you at that level is very, very small. The idea is to make these types of accounts more accessible to people with very small minimums. I think that's one of the key benefits of these types of accounts. This type of participant has been pretty much shut out of Roth IRAs up until now.

Question: And even if they start out small, these accounts could have utility for investors, even before retirement.

Benz: Absolutely. You can withdraw those contributions at any time. This might benefit people who do not have a safety net on an ongoing basis--and certainly we know there are plenty of people out there where this is the case. The idea is that you'd put a little bit of a floor underneath yourself by saving within such an account. So if you do have an emergency--if you've got a big health bill or some sort of car repair, whatever it might be--you won't have to resort to a form of really bad financing, like credit card debt.

Question: The type of investment in the myRA, that government bond investment, is not one that you can just go out as an investor and otherwise access today.

Benz: That's right. This is going to be similar to the G Fund in the Thrift Savings Plan that's available to government workers--the 401(k) plan for government workers. And it's really in a lot of ways the best of all worlds. You earn a much higher yield than you are able to get on cash, but you also have that guarantee in place. That's not something that you can just go out and buy on the open market today.

Question: These myRA accounts also address what we call behavioral finance, or the mental mistakes that we often make as investors. How might these accounts help us stay away from those pitfalls?

Benz: One of the main benefits is this idea of automatic payroll deduction--that your myRA savings come right out of your salary before you get your paycheck. One thing that behavioral finance has found is that if people don't see the money, they don't feel that opportunity cost when they don't have it to spend. The money just gets saved rather painlessly. That's one of the key benefits of this type of account.

The guaranteed government bond investment in the myRA addresses another behavioral problem. Research has found that very small savers, those who are less educated about the market and the benefits of being invested in more volatile securities, tend to panic when they see their initial investment lose a lot right out of the box. The idea with the myRA is to get them a little more comfortable with the concept of saving, see that slow but steady compounding, and then eventually perhaps they can step up and invest in higher-risk, higher-returning asset classes.

Question: Let's talk about some of the cons of these accounts, some of the areas that they don't address. The first one has to do with their ability to actually meet retirement needs. At 2.9%, the guaranteed return on myRAs probably won't be enough for someone who hasn't saved enough for retirement yet.

Benz: That's right, plus the fact that you can't put that much into these accounts. It's really not going to help solve the retirement crisis. We see a lot of data pointing to people being very much under-saved for retirement, and this is a pretty modest proposal that is not going to make a big difference on that front.

Another thing I would note is that it's not going to help people who are near retirement. This is something that perhaps over a period of 20 years or more might start to make a dent. But for people who are expecting to retire within the next 10 years, or who are already retired, it's not going to help them at all.

Question: And for younger investors--those just starting out, but who don't have a lot of money to invest yet--the government bond investment in the myRA might not necessarily be the best for their phase in life. They could take on a lot more risk potentially.

Benz: I think that's a big criticism here. If you want to get young savers to invest, what you want to try to do is take advantage of the fact that they've got a really long time horizon. Those are your best candidates for stocks. So, it's unfortunate that they will be stuck with government bonds--a fairly low-returning, low-risk asset class--when smaller, younger savers are really the best positioned people to take some risk.

Question: Christine, "keep it simple" has been your mantra for a long time, but this is adding yet another account type that investors need to think about as they are trying to wade through the investment world.

Benz: I think that's another potential downside here. While I'm really happy to see more attention being paid to this issue of retirement planning and the fact that so many people are so under-saved when it comes to retirement, I think adding another moniker into the mix, another set of initials that people have to pay attention to, have to figure out what the contribution limits are, and if they are they eligible, could lead to analysis paralysis. So, that's another negative associated with this particular new plan.

Question: Another issue is that there is nothing mandatory about this. I don't have to save a penny just because this account exists now.

Benz: That's right, and nor do employers have to do matching contributions. In fact matching contributions are not part of this program.

Question: It sounds like there are potentially some interesting new opportunities with the myRA. It could get some people saving, which is a good thing. But it's certainly not the only answer to the retirement-saving issues we have in this country.

Benz: There is a lot more to be done.