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Feeling dumb about Roth
Old 04-14-2013, 08:10 PM   #1
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Feeling dumb about Roth

A lot of the posters here seem to have, and advocate contributing to, Roth accounts, and an advisor at my wife's office recently suggested we contribute as much as we can to her 403b Roth, but I just don't get it.

We're mid-40s with approx. $350K saved so far, almost all of it in regular 401k/403b accounts. Our current combined annual salary is ~130K and we're each contributing the $17.5K max. Given all of that I don't see how we're going to be able to save enough to be in a higher tax bracket in retirement, and based on what I've read that is the main advantage of a Roth, i.e., taking the tax now at what would presumably be a lower tax rate than what you could expect to pay later.

But with all of the Roth proponents, I feel like there is some other obvious advantage that I am just flat out missing. Or is it simply that everyone is pretty well convinced that taxes are going to rise significantly?

Please help an imbecile out and explain to me, as you would to a child, what I'm not getting
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Old 04-14-2013, 08:17 PM   #2
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You are getting it. In your situation a Roth 403(b) is not the way to go. However, Roth IRAs can be added to your situation and would be advisable. So you could save/invest $17.5K + $17.5K + $5K + $5K (or is it $5.5K this year).

One should also be able to convert in the future the 403(b) money to a Roth IRA while in a very low (possibly 0%) tax bracket.

See also: http://thefinancebuff.com/case-against-roth-401k.html
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Old 04-14-2013, 09:35 PM   #3
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Roth's make sense for people who are in low tax bracket now but expect to be in a higher bracket. In your case you are in the 25% bracket to today realistically look like you'll be in the 15% when you retire, unless one of you has very nice pension.

While rates very may well rise in the future it is doubtful that they will go up more than 10%.

However, I do think it is wise to have modest size ROTH IRA when you are retired for the flexibility it provides. There are some many weird things in the tax/financial system from health care subsidies, property tax exemption for middle income seniors, the proportion of social security that is taxed, and in likely in future higher medicare premiums above a certain income. Each of these phase outs make your true marginal bracket much higher than it seems, often 50%+.

I think of a ROTH IRA as slush fund, money you can tap into in an emergency (e.g. new roof or car,) that withdrawing the money doesn't effect your tax bracket). So I think they are handy to have but I wouldn't give up the benefits of today tax deferral and switch from a traditional 401K
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Old 04-14-2013, 09:41 PM   #4
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Originally Posted by clifp View Post

I think of a ROTH IRA as slush fund, money you can tap into in an emergency (e.g. new roof or car,) that withdrawing the money doesn't effect your tax bracket). So I think they are handy to have but I wouldn't give up the benefits of today tax deferral and switch from a traditional 401K
+1 on this thought.
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Old 04-14-2013, 11:24 PM   #5
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Originally Posted by intent View Post
A lot of the posters here seem to have, and advocate contributing to, Roth accounts, and an advisor at my wife's office recently suggested we contribute as much as we can to her 403b Roth, but I just don't get it.

We're mid-40s with approx. $350K saved so far, almost all of it in regular 401k/403b accounts. Our current combined annual salary is ~130K and we're each contributing the $17.5K max. Given all of that I don't see how we're going to be able to save enough to be in a higher tax bracket in retirement, and based on what I've read that is the main advantage of a Roth, i.e., taking the tax now at what would presumably be a lower tax rate than what you could expect to pay later.

But with all of the Roth proponents, I feel like there is some other obvious advantage that I am just flat out missing. Or is it simply that everyone is pretty well convinced that taxes are going to rise significantly?

Please help an imbecile out and explain to me, as you would to a child, what I'm not getting
The Roth decision is complex. Most discussions don't do justice to the complexity and I won't here either because I don't have an hour to devote to it. So, instead let me try to guess if there are any grounds for you to consider the Roth at all: Do you expect to leave money after you die either to your wife (especially if she is younger) or to any kids? If so, the only way to leave them money that could earn investment returns tax-free over their lifetimes would be a Roth account. How valuable that is depends on what their tax rates would be and how good the returns on the investments actually turn out to be. It also matters whether the investments were strict buy-and-hold of equities or equity funds, which would therefore pay only a long-term capital gains rate and only once, or would be interest income that would be taxable at income rates every time it was received. An investment account that is tax-free for life could be an enormous advantage, but it depends.

Even if a Roth contribution at your current rates is not favorable now, a Roth conversion might be after you have retired, particularly during the period before the Required Minimum Contribution rates kick in at age 70, perhaps pushing up your marginal tax rate.

As a case in point, I was in a high tax bracket while working and so contributed only to tax-deferred accounts since I was above the eligibility for Roth contributions. I retired at 61 and my wife is younger. So, during my early retirement up until SS and RMDs kick in at age 70 I am converting the IRA assets to Roths at a rate that keeps me in my current tax bracket. My goal is to convert all of the money that i hope to pass to my wife to Roth accounts.
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Old 04-15-2013, 12:07 AM   #6
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After wandering about on the turbotax forums I think the meanest thing you can do to a person is to leave them an IRA in your will.
I want to have Roth money because I want to do alternate years of higher/lower income so my SS is not taxed as high. SS+Roth=no taxes SS+40K of Tira-taxed
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Old 04-15-2013, 07:48 AM   #7
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After wandering about on the turbotax forums I think the meanest thing you can do to a person is to leave them an IRA in your will.
I do not understand why you think it is mean to leave an IRA to someone in a will. Certainly the heir has to do the right thing to title the account and decide whether to take more out of the account sooner (more taxes) or stretch it with taking less out of the account over a longer period. I don't see the mean. Can you explain?
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Old 04-15-2013, 07:53 AM   #8
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A Roth could also be a hedge against crazy (and admittedly unlikely) tax hikes that would affect you in retirement. Others have summed up the other benefits pretty well.
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Old 04-15-2013, 08:12 AM   #9
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I do not understand why you think it is mean to leave an IRA to someone in a will. Certainly the heir has to do the right thing to title the account and decide whether to take more out of the account sooner (more taxes) or stretch it with taking less out of the account over a longer period. I don't see the mean. Can you explain?
not lemming........but just guessing from the original comments (only part of which were quoted), the preference for that person is to inherit a Roth (not a
(T)IRA ) so that there are no tax consequences. In particular, the interaction
w/ taxation of SS was mentioned.
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Old 04-15-2013, 08:18 AM   #10
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IRA's cannot be transferred using a will. Only IRA beneficiary rules apply. If an IRA beneficiary designation is to person "A" and the will says "B", "A" get the IRA and "B" get a terrible case of frustration.
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Old 04-15-2013, 08:56 AM   #11
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Originally Posted by intent View Post
Given all of that I don't see how we're going to be able to save enough to be in a higher tax bracket in retirement, and based on what I've read that is the main advantage of a Roth, i.e., taking the tax now at what would presumably be a lower tax rate than what you could expect to pay later.
If you or your wife die early, the survivor will suddenly jump to a much higher tax bracket and end up paying a lot more tax. That is how it happens. Look at the tax tables for the single rate compared to the married-joint rate and it is shocking. The survivor will have maybe a third lower expenses but may suddenly be paying taxes in the 28% or higher tax bracket because of RMDs. This is why it is good to have some of the money in Roths.
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Old 04-15-2013, 09:00 AM   #12
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Another advantage is that you can effectively put more money away in a Roth 403b than in a regular 403b because the $17.5K cap applies to it as well but it is after tax. If you can, I recommend putting $5500 each in Roth IRAs each year as well. With your current income level, you should be allowed to do this.
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Old 04-15-2013, 09:01 AM   #13
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Thanks all for helping me make more sense of this. You have definitely given me a couple of new avenues to explore to better develop my understanding ... and I'm pleased to know i wasn't TOO far off base in my original understanding.
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Old 04-15-2013, 10:30 AM   #14
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I am in a relatively high bracket now (33%), but I fund a Roth 401(k) and now backdoor roth's. Many would argue I should hope for tax rate arbitrage and use the traditional IRA. My reasons not to:

1- I am effectively saving more since after tax $ > pre tax $
2- I like the emergency fund access
3- If I leave an estate I like that I'd be leaving after tax $$
4- My current state does not offer a deduction for 401(k)'s, I may not live here in retirement
5- In retirement expect my federal, state, and the potential impact of phaseouts and means tested benefits to be close to my current rate.
6- If I FIRE, I have a good amount of tax deferred $$ from past contributions and current and future matches to allow me to engage in strategic conversions.

#4 & #1 are the biggest factors, but all of them matter to me. My only real fear is the gov't will reduce income tax rates and implement a VAT. I don't really worry about an outright reneging on Roth's.
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Old 04-15-2013, 10:48 AM   #15
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It's a little confusing to me too. i-Orp has me converting all 4 of our TIRAs to Roths, though I gather it just converts by default, and it calculates much higher retirement spending than we plan on. OTOH, when I plug our numbers into the Vanguard Roth conversion calculator with spending, assets, tax rates (almost no doubt they'll be lower for us), etc. - it tells me it would be a (tax) disadvantage. We may convert DW's TIRAs to Roths but not mine.
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Old 04-15-2013, 11:10 AM   #16
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Originally Posted by Khufu View Post
The Roth decision is complex. Most discussions don't do justice to the complexity and I won't here either because I don't have an hour to devote to it. So, instead let me try to guess if there are any grounds for you to consider the Roth at all: Do you expect to leave money after you die either to your wife (especially if she is younger) or to any kids? If so, the only way to leave them money that could earn investment returns tax-free over their lifetimes would be a Roth account. How valuable that is depends on what their tax rates would be and how good the returns on the investments actually turn out to be. It also matters whether the investments were strict buy-and-hold of equities or equity funds, which would therefore pay only a long-term capital gains rate and only once, or would be interest income that would be taxable at income rates every time it was received. An investment account that is tax-free for life could be an enormous advantage, but it depends.

Even if a Roth contribution at your current rates is not favorable now, a Roth conversion might be after you have retired, particularly during the period before the Required Minimum Contribution rates kick in at age 70, perhaps pushing up your marginal tax rate.

As a case in point, I was in a high tax bracket while working and so contributed only to tax-deferred accounts since I was above the eligibility for Roth contributions. I retired at 61 and my wife is younger. So, during my early retirement up until SS and RMDs kick in at age 70 I am converting the IRA assets to Roths at a rate that keeps me in my current tax bracket. My goal is to convert all of the money that i hope to pass to my wife to Roth accounts.

+1
And if you are going to ER, you may want to use Roth withdrawls to help control your taxable income as it relates to Obamacare premiums until you qualify for Medicare.
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Old 04-15-2013, 11:50 AM   #17
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Others have offered great info. My mindset is that it's good to have a little of each. If you are already contributing the max for 401k, I wouldn't think twice about putting another $5,000 into ROTH.

I'm approaching the eligibility limit to contribute to Roth, but I've been putting $5,000 a year into it above my 401k contributions just so that I have more options when I reach retirement.
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Old 04-15-2013, 11:52 AM   #18
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IRA's cannot be transferred using a will. Only IRA beneficiary rules apply. If an IRA beneficiary designation is to person "A" and the will says "B", "A" get the IRA and "B" get a terrible case of frustration.
MichaelB.......what happens if no beneficiaries are named or if they are not alive? or perhaps the estate is named as beneficiary?
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Old 04-15-2013, 12:05 PM   #19
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After wandering about on the turbotax forums I think the meanest thing you can do to a person is to leave them an IRA real estate in your will.
There, I fixed that for you.
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Old 04-15-2013, 03:28 PM   #20
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MichaelB.......what happens if no beneficiaries are named or if they are not alive? or perhaps the estate is named as beneficiary?
Good question. It should be specified in the IRA custodial agreement. In the case of Vanguard, for example, if there is no beneficiary designation the spouse is automatically the beneficiary, and if there is no spouse, the estate is beneficiary.
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