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invest in 401K vs. taxable?
Old 08-07-2010, 12:43 PM   #1
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invest in 401K vs. taxable?

I work part-time and just now became eligible for our 401K. So far, we have been living off of DH's income (after funding his 401K fully) and using my income to fully fund Roth's followed by investing in our taxable account.

Now that I am eligible for my company's 401K, I'm trying to figure out if it is worth participating. The match isn't great - 12.5 cents on the dollar up to 4% of my salary. The fund selection, however, is good. No loads, low expenses.

We are hoping (if Mr. Market cooperates) to FIRE in about 4 years, at the ages of 46 (me) and 50 (DH). Our net worth is split right now about 41% in taxable and 59% in 401K's/Roth's.

The benefits of the 401K of course are tax-free growth and reducing our current taxable income somewhat. However, we were trying to grow our taxable account so we could hopefully avoid doing 72T at some point (I'll admit, it seems so confusing, I'm nervous about attempting it.)

I'm trying to figure out how to analyze the situation to make a decision on how we want to proceed. What other questions should I ask/things should I consider?
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(49, married; DH 53. I am fully retired as of 2015 (well ok, I still work part-time but only because I love the job and have complete freedom to call off if I want to travel with hubby for work), DH hopes to fully retire 2018 when he turns 55 to access 401K penalty-free...although he may decide to do part-time consulting)
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Old 08-07-2010, 12:59 PM   #2
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Simple girl, nothing is simple, my two cents, capture the employer match, 12.5% of 4% of your income is not a shabby return. If your plan has a fixed income vehicle you could lower your risk as well, if that is a concern. As far as 72T goes, one has to be cautious but it is not as difficult as you may think.

I see you are DINKs, so I assume you have a fairly light debt load ? That is about the best I can do with the info you have given. Good luck !
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Old 08-07-2010, 01:15 PM   #3
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If your funds were lousy I might be tempted to go the taxable route, but with a good, low cost fund selection and already maxing a Roth I'd probably stick with the 401K. That you say you have good funds is the difference-maker in this case.

But even with a low level of match, that's still an immediate ROI of 12.5% on everything up to 4%, and looked at that way, it's still not a bad deal in this era of pathetic yields and uncertain returns.
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Old 08-07-2010, 01:17 PM   #4
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Originally Posted by frayne View Post
Simple girl, nothing is simple, my two cents, capture the employer match, 12.5% of 4% of your income is not a shabby return. If your plan has a fixed income vehicle you could lower your risk as well, if that is a concern. As far as 72T goes, one has to be cautious but it is not as difficult as you may think.

I see you are DINKs, so I assume you have a fairly light debt load ? That is about the best I can do with the info you have given. Good luck !
Thanks for your feedback. Yeah, not simple, LOL! I am leaning towards just doing enough to get the match then switching back to all my $ going to taxable.

The only debt we have is our mortgage, which will be paid off in 4 years.
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(49, married; DH 53. I am fully retired as of 2015 (well ok, I still work part-time but only because I love the job and have complete freedom to call off if I want to travel with hubby for work), DH hopes to fully retire 2018 when he turns 55 to access 401K penalty-free...although he may decide to do part-time consulting)
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Old 08-07-2010, 01:25 PM   #5
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Originally Posted by ziggy29 View Post
If your funds were lousy I might be tempted to go the taxable route, but with a good, low cost fund selection and already maxing a Roth I'd probably stick with the 401K. That you say you have good funds is the difference-maker in this case.

But even with a low level of match, that's still an immediate ROI of 12.5% on everything up to 4%, and looked at that way, it's still not a bad deal in this era of pathetic yields and uncertain returns.
Good points. The fund I am looking at is a PIMCO bond fund. Low expenses and consistent returns.
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simple girl
less stuff, more time

(49, married; DH 53. I am fully retired as of 2015 (well ok, I still work part-time but only because I love the job and have complete freedom to call off if I want to travel with hubby for work), DH hopes to fully retire 2018 when he turns 55 to access 401K penalty-free...although he may decide to do part-time consulting)
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Old 08-07-2010, 01:28 PM   #6
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Good points. The fund I am looking at is a PIMCO bond fund. Low expenses and consistent returns.
My 401K has the PIMCO Total Return fund -- the institutional shares with about a 0.4% expense ratio. Given that Bill Gross has consistently blown away the bond indexes with this fund with surprisingly little volatility, that's a low fee to pay for the consistent outperformance. I have about 20% of my current employer's 401K in that fund and sleep well doing so.

[Edit to add: One other thing: If you do wind up adding some taxable investing, I would absolutely move equity allocation to the taxable space and keep the fixed income *entirely* in the 401K and Roth if you aren't looking for current income. Even if not as pronounced as now, it's likely that long term cap gains and dividends will be treated better -- and certainly no worse -- for tax purposes than ordinary income in the long run and fixed income funds in tax-deferred vehicles avoid a heavy tax burden on bond interest income.]
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"Hey, for every ten dollars, that's another hour that I have to be in the work place. That's an hour of my life. And my life is a very finite thing. I have only 'x' number of hours left before I'm dead. So how do I want to use these hours of my life? Do I want to use them just spending it on more crap and more stuff, or do I want to start getting a handle on it and using my life more intelligently?" -- Joe Dominguez (1938 - 1997)

RIP to Reemy, my avatar dog (2003 - 9/16/2017)
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Old 08-07-2010, 01:32 PM   #7
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Even if your 401(k) funds are lousy and have high expense ratios, you should still use the 401(k). When you retire, you will be able to roll that over to a place with good funds and low expense ratios. The tax deferral is very important and the way to go.

For a calculator on this try: Alternatives to a High Cost 401k Or 403b Plan - The Finance Buff

You should contribute the max to your 401(k). When you retire early, you will be in a lower tax bracket and then can do Roth conversions then.
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Old 08-07-2010, 01:33 PM   #8
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Have you considered the possibility of maxing out your 401k's, then doing Roth conversions once you're both in ER, assuming you'll be in a lower tax bracket then? If you're currently in a high bracket due to salaries this could make a significant difference. There are of course the unknowns of future tax rates. Once your money is in a Roth, if I remember right you could also withdraw contributions after 5 years without penalty.
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Old 08-07-2010, 02:09 PM   #9
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(snip) You should contribute the max to your 401(k). When you retire early, you will may be in a lower tax bracket and then can do Roth conversions then.
Then again, you may not. If a large proportion of your income is going to tax-deferred retirement savings now, your taxable income may be about the same after you retire as it is now. You may lose deductions (e.g. mortgage interest) that you are currently taking on Schedule A. As mentioned on another thread, the brackets that determine how much of your Social Security benefit is subject to income tax are not indexed for inflation, so your taxable income may be even higher after you start taking SS than early in your retirement.

Having said that, Roth conversions might still be a good idea, even if you are not in a lower bracket after retirement. A third potential tax trap is the beginning of RMD's at age 70-1/2. If you have a lot of money in tax-deferred accounts, the RMD could potentially push you into the next higher bracket. Taking some money out of tax-deferred via conversion before RMD's start could keep the RMD small enough to avoid that problem.
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Old 08-07-2010, 04:05 PM   #10
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^Sure, you have to look at your personal tax situation. Nevertheless, to save at your marginal rate now is great because in the future some of that money may be taxed at the 0% rate. Remember, if you are in the 28% tax bracket, some of your income is tax-free, some is taxed at 5%, some taxed at 10%, some at 15%, etc. For early retirees without pensions, it is very easy to engineer almost no taxes in early retirement as many people on this forum have already shown.
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Old 08-08-2010, 05:48 PM   #11
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Wow, great feedback all around. I haven't paid much attention to Roth conversion threads, so this thread has opened my eyes about they could prove useful to us in the future. We expect to be in a lower tax bracket upon retirement.

So, will be fully funding my 401K. What is cool is our plan lets me put in up to 80% of my pay (up to IRS limits), so I should be able to get the full 401K contribution in for 2010.

Oh and Ziggy, sounds like we have the exact same fund! Oh, and we do keep bonds, real estate, etc. only in our 401K's/roth's. Thanks!
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(49, married; DH 53. I am fully retired as of 2015 (well ok, I still work part-time but only because I love the job and have complete freedom to call off if I want to travel with hubby for work), DH hopes to fully retire 2018 when he turns 55 to access 401K penalty-free...although he may decide to do part-time consulting)
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Old 08-09-2010, 01:11 PM   #12
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If you put money in a 401k, you can convert it to Roth's later
if you put money in a taxable you cannot convert to Roths later

If you put money in a 401k, you get a bonus (the match)
If you use taxable accounts, you get no bonus and the government getting a small slice thru taxes.

I would fund 401k up to match
then whether you did taxable or not would be based on other factors (like income needed to cover expenses- can 100% taxable be used or not).

If I was in this position, I would max 401ks until I was in 15% tax bracket, then fund taxable accounts... if you are in 25% bracket or higher, and a fully funded 401k times 2 will not lower you into next lowest bracket, I would use 401k just to keep more money now (less taxes paid) and deal with 72T and Roth conversions later (if conversions are possible).
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Old 08-09-2010, 01:21 PM   #13
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If you put money in a 401k, you can convert it to Roth's later
Sure you can. You just have to take the intermediate step of rolling a 401K into a conventional IRA. From there, if you meet the income guidelines (not an issue in 2010), you can perform a Roth conversion.

[Edit to add -- bah -- never mind -- I misread the original quote.]
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"Hey, for every ten dollars, that's another hour that I have to be in the work place. That's an hour of my life. And my life is a very finite thing. I have only 'x' number of hours left before I'm dead. So how do I want to use these hours of my life? Do I want to use them just spending it on more crap and more stuff, or do I want to start getting a handle on it and using my life more intelligently?" -- Joe Dominguez (1938 - 1997)

RIP to Reemy, my avatar dog (2003 - 9/16/2017)
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