Non-deductible 401k contributions

[friendlygirl]

Recently I read a post by Goofyhoofy on the TMF site about nondeductible contributions to your 401k (heck if I can find it-- stupid search engine) and I am a bit concerned about its implications.

He said that your nondeductible contributions must be the first removed from your 401k and that you cannot roll over the nondeductible contributions into an IRA. Thus, if I make nondeductible contributions to my 401k this year, I will be left with two choices when I leave this job:
1) pull out the nondeductible contributions (just these, or the growth on them as well?), pay the tax and the fine and roll over the rest into an IRA, or
2) leave all of my money in the 401k until the time I retire.

Am I right that these are my only two choices? Can I pull the money out of my 401k at some point in the future after I have left this job but before retirement?

Currently, my 401k money is invested in an S&P 500 index fund (95%) and total market bond index fund (5%). My company matches some of my contributions with company stock, which I will be able to move to other funds after I leave the company.

I intend to leave the company some time in the next couple of years, so there will be quite a while between then and when I retire. I like my choices in the 401k fairly well at this time, but who knows when they will change, or I will change my preferences. Still, I'd like to sock away as much money as possible into tax-advantaged vehicles and I will reach the IRS limit later this year. So... how do I figure out what I should do? Any additional information I should collect from my benefits administrator? What should I consider? Which sounds best?

TIA,
friendlygirl

 

[baanista]

Don't obsess over tax advantages, sometimes a good, old-fashioned taxable account is best, especially when it has something that will mostly generate capital gains.

Deductible 401k contributions are great, but you don't gain a lot with non-deductible 401k contributions. Just put that money in an index fund in a taxable account. Very few taxable gains will be generated as it grows and when you ultimately do sell, you pay captital gains rate instead of ordinary rates. In fact you may be worse off with the non-deductible.

So put the max into your 401k but no non-deductible contributions. When you change jobs in a couple of years, roll your 401k into an IRA at someplace useful like Vanguard.

Regards,

Baanista

 

[lpuzzle]

I believe with the change in the law last year, nondeductible contributions to a 401K CAN be rolled into an IRA, however, I still wouldn't go that route. I recommend a tax-managed mutual fund (Vanguard has a variety). Generally, these funds generate very low dividend or capital gain income, therefore current taxes are nil, allowing money to grow until whenever - at which point you pay the tax on the share price increase based on your capital gain bracket (currently either 10% or 20%). If it is placed in a nondeductible IRA, your tax when you extract it will be at your normal income tax rate.

 

[friendlygirl]

FWIW, between this and the TMF board, I have gotten several suggestions into which I am going to look. I figure that it would at least be best for me to know more about the options, before I rule any of them out. So it looks like I will be finding out more about the details about fees and the treatment of my 401k, more about traditional IRAs at Vanguard (since that is likely to be where I transfer my money), and about variable annuities and tax-managed equity mutual funds.

I will probably try to adapt intercst's 401k shaft detector to determine which path is likely to be the best overall. I will report back later.

Thanks for the suggestions!
friendlygirl