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Invest in 401(k) without a match?
Old 11-24-2014, 03:47 PM   #1
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Invest in 401(k) without a match?

I had a question come to me and I wasn't quite sure how to answer.

If your company doesn't have a matching program in the 401(k), does it still make sense to contribute?

Let's assume, for sake of argument that the individual will be in the 25% tax bracket in retirement and is in the 33% bracket now.

So I put a small table together with simple assumption and it seems the 401(k) still makes sense. (10K to put in or put in taxable, 4% return, buy and hold, liquidate after 10 years).

What am I missing?

 no 401(k)401(k)
Rate of Return1.041.04
Saved10,00010,000
Fed Tax rate0.330
State Tax Rate0.050
Taxes Paid38000
Net Contribution6,20010,000
Yr 1$6,448$10,400
Yr 2$6,706$10,816
Yr 3$6,974$11,249
Yr 4$7,253$11,699
Yr 5$7,543$12,167
Yr 6$7,845$12,653
Yr 7$8,159$13,159
Yr 8$8,485$13,686
Yr 9$8,825$14,233
Yr 10 (withdrawn)$9,178$14,802
Fed Tax rate0.250.25
State Tax Rate0.050.05
Taxes Paid$2,753$4,441
Net Income$6,424$10,362
Total Taxes Paid$6,553$4,441
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Old 11-24-2014, 04:13 PM   #2
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The taxes paid in the taxable account would only be $893 on the gain of $2,987 since you would have $6,200 of basis. So the taxable account holder would walk away with $8,294 whereas the tax-deferred account holder would walk away with $10,362 (assuming account holder is over 59 1/2 and avoids 10% early distribution penalty).

With respect to your question though, if you can contribute to a deductible IRA the same amount you would save in the 401k, then I would prefer the deductible IRA. the bad part about 401ks is typically investment choices and costs, but the good part is that you can generally defer much more than you can with a deductible IRA.

Another option would be a Roth, which would be similar to the taxable account except the tax upon withdrawal would be nil if the taxpayer if over 59 1/2 or otherwise meets the 10% penalty exceptions.
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Old 11-24-2014, 04:22 PM   #3
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The fed tax rate on the cap gains of the taxable account would only be 15%. So the fed tax on the $2978 cap gains at withdrawal would only be $447. Keep the state tax at 5% and the total tax on the cap gains would be $596. So the net income would be $8,582.

Still not as good a return as the tax-deferred account, which is why most people should use them, but not quite the difference you show. If you added in a 2% qualified dividend return each year, the two outcomes would be even closer.
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Old 11-24-2014, 04:25 PM   #4
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Agree assuming that the nature of the growth of the taxable account qualifies for LTCG treatment. State might be different too since LTCG treatment varies by state.
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Old 11-24-2014, 05:04 PM   #5
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An often repeated priority is use the 401k up to the match, then fund a Roth IRA, and only then use the non-match 401k.
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Old 11-24-2014, 05:06 PM   #6
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Originally Posted by pb4uski View Post
the bad part about 401ks is typically investment choices and costs, but the good part is that you can generally defer much more than you can with a deductible IRA..
I had seen lot of 401ks with s&p 500 at 2.5 cents on 100 dollars on fees. That is institutional rate and you will NOT find it on your own.

Choices may be limited but 1-2 things can be diamonds in any good 401k plan.
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Old 11-24-2014, 05:09 PM   #7
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An often repeated priority is use the 401k up to the match, then fund a Roth IRA, and only then use the non-match 401k.
Max out both Roth IRAs and 401ks unless you have very poor 401k with no good choices. In such case I would look for another employer
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Old 11-24-2014, 05:18 PM   #8
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I had seen lot of 401ks with s&p 500 at 2.5 cents on 100 dollars on fees. That is institutional rate and you will NOT find it on your own.

Choices may be limited but 1-2 things can be diamonds in any good 401k plan.
Looking at various 401K plans here on the forum, it has been my experience that there is generally one or two decent choices (and sometimes a lot more) in a 401K. Don't over look the benefit of being able to withdraw money at age 55 vs 59.5 for an IRA particularly for the many people looking to retire at that age.

As always the benefit of tax deferred compounding increases the longer you hold. The real win is after 30 years not 10 years.
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Old 11-24-2014, 05:43 PM   #9
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I had seen lot of 401ks with s&p 500 at 2.5 cents on 100 dollars on fees. That is institutional rate and you will NOT find it on your own.

Choices may be limited but 1-2 things can be diamonds in any good 401k plan.
Note I said that 401ks "typically" have poor choices and high fees. I know mine sucked and many do.

Are you sure about lots of 401ks with S&P 500 funds with a .025% expense ratio? I concede you can get that low (Vanguard Institutional Plus version is .02% ER but the regular institutional version is .04% ER) but I think it is a stretch to claim that there are 'lots' out there.

I bet if you did a poll with all forum members with access to a fund within their 401k with an ER of .025% or less you would get less than 5% with access to such low ER funds.
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Old 11-24-2014, 05:47 PM   #10
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Note I said that 401ks "typically" have poor choices and high fees. I know mine sucked and many do.

Are you sure about lots of 401ks with S&P 500 funds with a .025% expense ratio? I concede you can get that low (Vanguard Institutional Plus version is .02% ER but the regular institutional version is .04% ER) but I think it is a stretch to claim that there are 'lots' out there.
Every big high tech company me and my wife worked has s&p 500 at 2-2.5 cents on 100 bucks fees.

I will not go into names for sake of privacy.

Now you can bet on us having US equities in 401ks and International in Brokerage account or IRAs.......Just pick best from each place.
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Old 11-24-2014, 06:03 PM   #11
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I bet if you did a poll with all forum members with access to a fund within their 401k with an ER of .025% or less you would get less than 5% with access to such low ER funds.
Create a poll fellow New Englander

With some monster companies I had even seen 1 cent on 100 dollars on self administered s&p 500. Now it may have had bigger tracking error then Vanguard (I don't know).
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Old 11-24-2014, 06:16 PM   #12
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Quote:
Originally Posted by pb4uski View Post
The taxes paid in the taxable account would only be $893 on the gain of $2,987 since you would have $6,200 of basis. So the taxable account holder would walk away with $8,294 whereas the tax-deferred account holder would walk away with $10,362 (assuming account holder is over 59 1/2 and avoids 10% early distribution penalty).

With respect to your question though, if you can contribute to a deductible IRA the same amount you would save in the 401k, then I would prefer the deductible IRA. the bad part about 401ks is typically investment choices and costs, but the good part is that you can generally defer much more than you can with a deductible IRA.

Another option would be a Roth, which would be similar to the taxable account except the tax upon withdrawal would be nil if the taxpayer if over 59 1/2 or otherwise meets the 10% penalty exceptions.
I KNEW I missed something, but couldn't put my finger on it. THAT was it. (first comment).

As to the other two, income is too high to take advantage of ROTH or TIRA. Should have put that in the assumptions.

Thanks!
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Old 11-24-2014, 06:24 PM   #13
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Simplifying .... for tax deferred account, the only time you shouldn't contribute is if you will be at higher income tax rate after 59 1/2.
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Old 11-24-2014, 06:26 PM   #14
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I KNEW I missed something, but couldn't put my finger on it. THAT was it. (first comment).



As to the other two, income is too high to take advantage of ROTH or TIRA. Should have put that in the assumptions.



Thanks!

You can do a backdoor Roth IRA by contributing to a tIRA (no deductible) and then converting it to a Roth right away. No income restrictions doing it that way.


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Old 11-24-2014, 10:05 PM   #15
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An often repeated priority is use the 401k up to the match, then fund a Roth IRA, and only then use the non-match 401k.
+1 on this....

And only the non-match until you drop from the (now) higher tax bracket to the estimated (retired) lower bracket....


IOW, in your example I would not contribute after dropping from 33% to 25%...
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Old 11-24-2014, 11:24 PM   #16
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If you are not going to contribute much, then use IRA, if you are going to stuff the max into the shelter, then only the 401K lets you sock away 17,000 - 23,000 dollars.
If you are going to switch companies every 1-3 years, then do the 401K and roll it over to an IRA when you leave the company.
That way you get the large amount of savings plus get better management fees in your IRA (if you are careful or use Vanguard).
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Old 11-25-2014, 08:17 AM   #17
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IMHO, anyone in the 33% bracket should be deferring as much income as the IRC allows. Company match is just a form of compensation. That should have been weighed in the decision to accept employment, not the decision where to invest. This person should max-out the 401K *AND* plow several thousand per month into the taxable account. If that's not possible, they should re-examine their expenses.
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Old 11-25-2014, 10:04 AM   #18
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While big companies may have a few excellent low ER funds, smaller companies who may be the ones with no match, generally do not. To make an accurate comparison you should figure in the difference between the better investment options you can find if you are free to choose, vs the limited set in the actual 401k you are considering.
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