Join Early Retirement Today
Reply
 
Thread Tools Search this Thread Display Modes
Old 06-04-2011, 06:23 AM   #21
Give me a museum and I'll fill it. (Picasso)
Give me a forum ...
Gone4Good's Avatar
 
Join Date: Sep 2005
Posts: 5,381
Quote:
Originally Posted by jeffmete View Post
Shawn, Thanks for the explanation. I was missing the point that you would put less into a Roth due to the original tax liability!
There's no rule that says you have to though. As long as you have the cash, you can pay the tax liability and still max out the account.
__________________

__________________
Retired early, traveling perpetually.
Gone4Good is offline   Reply With Quote
Join the #1 Early Retirement and Financial Independence Forum Today - It's Totally Free!

Are you planning to be financially independent as early as possible so you can live life on your own terms? Discuss successful investing strategies, asset allocation models, tax strategies and other related topics in our online forum community. Our members range from young folks just starting their journey to financial independence, military retirees and even multimillionaires. No matter where you fit in you'll find that Early-Retirement.org is a great community to join. Best of all it's totally FREE!

You are currently viewing our boards as a guest so you have limited access to our community. Please take the time to register and you will gain a lot of great new features including; the ability to participate in discussions, network with our members, see fewer ads, upload photographs, create a retirement blog, send private messages and so much, much more!

Old 06-04-2011, 08:00 AM   #22
Full time employment: Posting here.
ronocnikral's Avatar
 
Join Date: Apr 2010
Posts: 852
what has been unclear to me is if instead of Shawn's example, one has enough to max out the roth 401k and roth ira.

e.g. assume the same 25% tax rate and roth 401k and ira contributions of $21,500 ($16,500 for 401k and $5000 for ira). @ the 25% tax rate, one would have to earn $28,666.67 (21,500/(1-0.25)) for a difference of $7166.67 (all of which could be invested after tax if one elected trad 401k and trad IRA. So, take the 25% taxes out of the difference, that leaves the "traditional" investor $5375 to put into taxable accounts (or day trade).

so, if you're all in on the roth accounts, you invest $21,500 @ 8% annual growth for 30 years and you have $216,347.12.

If you're trad you invest $21,500 @ 8% for 30 years less 25% tax and you'll have $162,260.34. Plus, your taxable accounts of $5375 @ the same return for 30 years gives $54,086.78. Less the 15% capital gains (let's assume no dividend tax payments along the way) leaves one with $45,973.76. So, a total of $208,234.11

so, if my math is correct, which it may not be, if you have to invest the difference in taxable accounts, there are some advantages to a roth if you will be in the same tax bracket when you retire (which is all the debate). Of course, the value of such things as going the trad route and having slightly less than 25% of your portfolio liquid for a relatively small difference is not accounted for.
__________________

__________________
ronocnikral is offline   Reply With Quote
Old 06-04-2011, 08:12 AM   #23
Give me a museum and I'll fill it. (Picasso)
Give me a forum ...
Gone4Good's Avatar
 
Join Date: Sep 2005
Posts: 5,381
Quote:
Originally Posted by ronocnikral View Post
so, if my math is correct, which it may not be, if you have to invest the difference in taxable accounts, there are some advantages to a roth if you will be in the same tax bracket when you retire (which is all the debate).
Correct.
__________________
Retired early, traveling perpetually.
Gone4Good is offline   Reply With Quote
Old 06-04-2011, 09:47 AM   #24
Give me a museum and I'll fill it. (Picasso)
Give me a forum ...
 
Join Date: Jun 2005
Posts: 8,616
Long-term capital gains are taxed at 0% for folks in a low enough tax bracket, so you may wish to put that in your planning.
__________________
LOL! is offline   Reply With Quote
Old 06-04-2011, 12:28 PM   #25
Full time employment: Posting here.
ronocnikral's Avatar
 
Join Date: Apr 2010
Posts: 852
true, at least for 2011 and 2012 for those in 15% tax bracket and below, LT capital gains is 0%. can also be a benefit for those with roth funds and taxable accounts who plan to retire on higher incomes....
__________________
ronocnikral is offline   Reply With Quote
Old 06-05-2011, 03:12 PM   #26
Recycles dryer sheets
 
Join Date: Jan 2007
Posts: 398
Quote:
Originally Posted by ronocnikral View Post
what has been unclear to me is if instead of Shawn's example, one has enough to max out the roth 401k and roth ira.

...
As you have shown, one advantage of a Roth 401k (or IRA) over a traditional 401k is that more funds are put to tax-advantaged use if the maximum contribution limit is reached. This advantage is not insignificant, although it is likely less than the advantage the traditional plan has over the Roth for people who expect to be in significantly lower tax brackets when they retire. These effects can be quantified by looking at tax-adjusted yields for different scenarios and investment accounts. The tax-adjusted yield considers all taxes over the period of the investment (e.g., original income tax, income tax on withdrawals, annual dividends, realized capital gains).

For example, consider two people, A and B, with solid incomes living in a high tax state. Their federal plus state marginal tax rate is 35%. Person A has a significant taxable pension and plans to live in the high tax state after he retires. His effective tax rate on traditional 401k/IRA withdrawals when he retires will be 30%. Person B does not have a pension and plans to move to a low tax state when she retires. Her effective tax rate on traditional 401k/IRA withdrawals will be 15%. Both A and B plan to invest for 30 years and expect a nominal return of 10% (lets be optimistic), with 2% of the return coming from qualified dividends that are taxed each year for funds in taxable accounts. Assume the tax rate on qualified dividends is 15% and the tax rate on realized capital gains is 15%.

How should each person invest? What are the tax adjusted yields for different investment accounts?

Person A (35% tax rate while working, 30% when retired)
8.43% Roth 401k (or IRA)
8.38% Traditional 401k (maxing out contributions)
8.70% Traditional 401k (not maxing out contributions)
7.24% After-tax contributions to retirement account
7.69% Taxable investment account

Person B (35% tax rate while working, 15% when retired)
8.43% Roth 401k (or IRA)
8.89% Traditional 401k (maxing out contributions)
9.41% Traditional 401k (not maxing out contributions)
7.88% After-tax contributions to retirement account
7.69% Taxable investment account

Of course, there are near-infinite possible permutations of these examples including the fact that future tax rates are not known. But what can we learn from these results?

- For those with taxable pensions (401k/IRA withdraws will be highly taxed in retirement due to significant base income), the Roth may be slightly better than the traditional plan for people maximizing their contributions. But what ever you do, don't make after-tax contributions to a 401k or nondeductible contributions to an IRA unless you plan to immediately roll these contributions into a Roth (e.g., backdoor Roth). Instead, put the funds in a regular taxable account that is tax efficient (e.g., Vanguard index funds).

- For those without pensions (low tax rates on 401k/IRA withdrawals in retirement), the traditional 401k or IRA is almost definitely the better choice. Also, after-tax contributions to a 401k or nondeductible contributions to an IRA might be appropriate.

- For those not maxing out 401k or IRA contributions, the traditional plan is the way to go.

- For those with poor 401k plans such as those with high fees or those that offer only funds with high expense ratios (greater than 100-150 basis points), it may be better to forgo the 401k contributions and simply invest in a low cost taxable account if you plan to remain with your employer for several years (after any employer match).
__________________
Shawn is offline   Reply With Quote
Old 06-05-2011, 04:44 PM   #27
Full time employment: Posting here.
 
Join Date: Nov 2010
Posts: 583
Personally, I chose the Roth option. It gives me more flexibility to withdraw funds if the shtf, but also gives me the chance to make MORE in retirement while paying less in taxes. I also have the chance to pass on an estate to my heirs without their being taxed to death. (not in your scenario, but when you get older, you may look at it differently). I have enough already to boost my tax with the IRAs and traditional 401k from the years before Roths were available.
__________________
devans0 is online now   Reply With Quote
Old 06-06-2011, 10:50 PM   #28
Recycles dryer sheets
 
Join Date: Nov 2007
Posts: 103
Quote:
Originally Posted by sinusone View Post
Hi everyone! My name is Joe and I'm new here. I'm pretty young (24) and looking to retire early. I live in southern california.

.............
The caveat
I would (hopefully if possible) like to retire early but ALSO I would like to live somewhat of a lavish lifestyle. I want to travel the world mainly, nice restaurants, etc. So given I probably will take a good chunk each year...(
Well, Joe, I'm gonna be honest. You're going to have to be really freakin' smart or wise, and probably both to pull it off. For most people, me included, the retire early mindset means turning your back on the consumerism mindset that afflicts probably most of your friends and, by your own admission, you as well. You probably should also move too (I'm assuming southern California is expensive).

Yeah, there are a few super successful people on this forum, former CEO's, that may outright dwarf my above-average income, - the truly wealthy - who can quite literally do both, but unless you're going to be one of these people, step one will be to pick which you want more - your free time/retire early or to live "lavishly".

I can help with step one - ASSUME you will be like me until your salary proves otherwise, and either spend (or save) according to plan.
__________________

__________________
slazenger is offline   Reply With Quote
Reply


Currently Active Users Viewing This Thread: 1 (0 members and 1 guests)
 
Thread Tools Search this Thread
Search this Thread:

Advanced Search
Display Modes

Posting Rules
You may not post new threads
You may not post replies
You may not post attachments
You may not edit your posts

BB code is On
Smilies are On
[IMG] code is On
HTML code is Off
Trackbacks are Off
Pingbacks are Off
Refbacks are Off


Similar Threads
Thread Thread Starter Forum Replies Last Post
Rolling a 401k into another 401k 'OR' Roth IRA? MrTux Young Dreamers 10 07-04-2009 04:30 PM
401K, Roth IRA, Roth 401K - Need advice please tsturbo FIRE and Money 15 05-10-2009 03:08 PM
Roth 401k vs Traditional 401k keldon FIRE and Money 3 01-08-2007 01:25 PM
Trad 401k or Roth 401k for High Earners Linney Young Dreamers 7 01-01-2007 08:24 PM
Traditional 401k or Roth 401k HatePayingTaxes Young Dreamers 4 12-30-2006 10:59 PM

 

 
All times are GMT -6. The time now is 10:55 PM.
 
Powered by vBulletin® Version 3.8.8 Beta 1
Copyright ©2000 - 2017, vBulletin Solutions, Inc.