Roth 401k or traditional one?

[semtex]

My senerio:
Traditional 401k, comp match 1:1 until 6%. currently I max my contribution. But should I split some to Roth 401k, of course, after got all comp match?

Some idea?

 

[teejayevans]

My senerio:
Traditional 401k, comp match 1:1 until 6%. currently I max my contribution. But should I split some to Roth 401k, of course, after got all comp match?

Some idea?

What tax bracket are you in?
Will your taxes be lower or higher when you retire?
TJ

 

[semtex]

What tax bracket are you in?
Will your taxes be lower or higher when you retire?
TJ

I am in high basket now and expect lower when I retire.

 

[SecondCor521]

I am in high basket now and expect lower when I retire.

Typical wisdom would then say to prefer the Roth.

I would be surprised if your company would only match contributions to the traditional 401(k) and not a Roth 401(k). You may want to check with your company on that point.

2Cor521

 

[HobbyDave]

Traditional 401k, comp match 1:1 until 6%. currently I max my contribution. But should I split some to Roth 401k, of course, after got all comp match?

I'd agree with the poster that said to check with your company, I'd assume that the match would also apply to the Roth 401k. Also, if your company works like mine does, you can't "max out" your company match until the end of the year, as it is calculated each week. Hard to explain, but if you raise your 401k contributions, you'll notice that at a certain point, the matching money doesn't go up anymore. You could put 100% of your check into your 401k, and your matching money would still be only $200 or whatever.

Anyway, check to see if they match on Roth 401k. I like having some money in a normal 401k, and some in a Roth, as it gives you options in regards to tax. If you have some good deductions some years, you could use the 401k, and if you had a big tax hit some year, you could use the Roth more. Gives you more options which is always good. Plus, you can keep your income below a certain income tax level, and past that use the Roth, to minimize your tax bracket in retirement.

 

[HobbyDave]

Typical wisdom would then say to prefer the Roth.

Actually typical wisdom says that if you're in a high bracket now, and a lower one later, use the normal 401k. I believe you have it backwards

Right now you're in the 25% bracket lets say, so you put away $15k tax free. Later in retirement you withdraw it, but you're now in the 15% bracket. Yay, skipped taxes.

 

[teejayevans]

Typical wisdom would then say to prefer the Roth.
2Cor521

You got it backwards...
Max out your 401K is the correct answer
TJ

 

[Martha]

My recollection is that any contribution an employer makes to a 401k is a pretax contribution, but I could be wrong.

 

[jIMOh]

You need to know around 4 issues and weight their importance to you.

Roth 401k works if your retirement tax bracket will be higher than it is now
Roth 401k works if your RMD in retirement is too high
A company match is always pre-tax
Roth 401k will decrease your take home pay

 

[SecondCor521]

Ooops, yes, I had it backwards.

2Cor521

 

[cute fuzzy bunny]

Other thing to consider is whether you think the tax code will be reworked by the time you start withdrawing from your Roth.

I can say with near certainty that a flat tax or national sales tax will be implemented within 30 days of my first Roth withdrawal

 

[Gnashchick]

I am contributing to a traditional IRA rather than a Roth, primarily because my employer does not offer a 401K, and I like the tax break of the traditional.

I'm often frustrated by most personal finance advice that starts with "Max out your 401K contributions" because I don't have that option. I get my max IRA contribution every year, plus whatever else I can save and whatever growth my portfolio generates. I have fewer options available to me than most people.

 

[HobbyDave]

Roth 401k will decrease your take home pay

I know myself well enough (and most people), that reducing my take home pay now would be fine. As they always say, setup automatic payment plans because you won't notice the lack of money.

With a normal 401k, you are saving 15.5k pre-tax. With a Roth 401k, you're saving 15.5k post-tax. So while with the Roth 401k you're probably coming out a bit behind Net, in retirement you'll actually have more money.

That's the reason I've been pushing to get a Roth 401k at work. While it's not really efficient for me to use one, it'll help me in retirement more.

 

[LOL!]

That's the reason I've been pushing to get a Roth 401k at work. While it's not really efficient for me to use one, it'll help me in retirement more.

Have you thought about a 401k that you convert to a Roth when you are retired and in a lower tax bracket?

 

[HobbyDave]

Have you thought about a 401k that you convert to a Roth when you are retired and in a lower tax bracket?

But that's missing the point. I want to maximize my savings now, while I'm working. Once I'm retired, I won't have the free cash sitting around to pay taxes for my 401k. Even if it's not the most efficient use of money, here are my options:

I can save 15.5k that will never be taxed at the cost of 20k now
or
I can save around 13k (after taxes) at the cost of 15.5k now. While it's not efficient, the top option gets me more money in retirement.

Anyway, just making a silly point. I don't have a 401k Roth available to me, and I'm not 100% sure I'd want to take the inefficient route.. I hate inefficiency, I just know that it might end up being better for me in the end.

 

[chinaco]

My senerio:
Traditional 401k, comp match 1:1 until 6%. currently I max my contribution. But should I split some to Roth 401k, of course, after got all comp match?

Some idea?

This Roth vs Traditional is a tax question.

Not sure if anyone has done this exercise... but if you take $10K at year 0 and $10k*.75 (represents 25% tax). Those two represent roth and trad. compound them both for x years. Then take the trad and multiply it by .75, you are at the same place. This is due to the basic math properties we all learned as a kid (commutative, associative distributive)

If you are in a higher tax bracket now than during retirement... the trad 401k can make sense. Or if the trad 401k pushes you in a lower tax bracket today and you have the same tax bracket during retirement, a trad might make sense.

I have not run the numbers myself... but you probably need to determine your tax situation today. And you need to attempt to understand your tax situation when you retire. Tax law will change, so this is an impossibility.

I have not read al of the provisions of a Roth 401k... so what I am going to say could be a bit off. But if the trad 401k put me in a lower tax bracket today, I would probably use the trad to get me there. Then other money would go into a Roth 401k. In other words... If $10k would take me down to a 25% bracket. It would go in a trad 401k. The remainder would go into a Roth 401K. If the contribution kept me in the same tax bracket today, It would probably put it in a Roth 401k unless I was completely sure I would be in a lower tax bracket at retirement. Plus, if the Roth 401k helps me to avoid the SS tax torpedo... all the better.

Since I do not have a Roth 401k available to me yet... it is a moot point for me. If it becomes available in my company soon. I will be looking much closer.

 

[teejayevans]

I can save 15.5k that will never be taxed at the cost of 20k now
or
I can save around 13k (after taxes) at the cost of 15.5k now. While it's not efficient, the top option gets me more money in retirement.

The 15.5K saves you about 4.5K in taxes, so at the end of the year, you
have saved 20K, versus 11K (assuming 28% tax bracket, not to mention
state taxes).
TJ

 

[LOL!]

But that's missing the point. I want to maximize my savings now, while I'm working. Once I'm retired, I won't have the free cash sitting around to pay taxes for my 401k. Even if it's not the most efficient use of money, here are my options:

I can save 15.5k that will never be taxed at the cost of 20k now
or
I can save around 13k (after taxes) at the cost of 15.5k now. While it's not efficient, the top option gets me more money in retirement.

OK, so put 13K in a 401(k) now and put the 2.5K in an after-tax, tax-efficent no-load, low-expense-ratio mutual fund. Then you will have a 401k that you can rollover to an IRA that can be converted to a Roth IRA. And you will have a little pot of money on the side to pay the much lower income taxes on the conversion.

Quite a few folks on this message board have practiced this conversion in retirement when they are in a much lower tax bracket. Since it works, it is not to be dismissed. I have seen no messages where someone did your first option.

 

[jIMOh]

The 15.5K saves you about 4.5K in taxes, so at the end of the year, you
have saved 20K, versus 11K (assuming 28% tax bracket, not to mention
state taxes).
TJ

We need a review of taxes to have a productive discussion. If someone is in 28% tax bracket, the 15.5k is not really 11k "after taxes". And it does not "save" 4k in taxes either.

It is not a flat 28%... depends on filing status, but for me (married filing jointly)-

for 2007
the first 15,560 I make is taxed at 10% (1560 total tax)
income between 15650 and 63700 is taxed at 15% (8772 total tax, including the 10%).
income over 63700 is taxed at 25%.

If I make 68k per year, I am in 25% tax bracket, but I don't pay .25*68=17k in taxes,

I pay (68000-63700)*.25=1075+8772=9847 in taxes.

This is before I take any standard or itemized deductions.

for singles 10% is capped at $7825, 15% is capped at $31850 and 25% capped at $77100.

Reference Room

 

[teejayevans]

We need a review of taxes to have a productive discussion. If someone is in 28% tax bracket, the 15.5k is not really 11k "after taxes". And it does not "save" 4k in taxes either.

It is not a flat 28%... depends on filing status, but for me (married filing jointly)-

for 2007
the first 15,560 I make is taxed at 10% (1560 total tax)
income between 15650 and 63700 is taxed at 15% (8772 total tax, including the 10%).
income over 63700 is taxed at 25%.

If I make 68k per year, I am in 25% tax bracket, but I don't pay .25*68=17k in taxes,

You making this too complicated, I used it as an example. Yea I know
you don't pay 25% TOTAL, but if you make another 1000, you pay
250 in taxes, 25%, plus state taxes. So if you put the 1000 into an
IRA/401K, you pay 250 less tax. Its as if you deposited 750 and
it immediately went up to 1000, yes you have to pay taxes on it
later, for most, later tax rate is assume to be less than now. If you feel you'll
be in a high bracket when you retire, definitely roth is for you.
TJ

 

[teejayevans]

OK, so put 13K in a 401(k) now and put the 2.5K in an after-tax, tax-efficent no-load, low-expense-ratio mutual fund. Then you will have a 401k that you can rollover to an IRA that can be converted to a Roth IRA. And you will have a little pot of money on the side to pay the much lower income taxes on the conversion.

Quite a few folks on this message board have practiced this conversion in retirement when they are in a much lower tax bracket. Since it works, it is not to be dismissed. I have seen no messages where someone did your first option.

If I were young (20s+), hence at the start of my career, I would do Roth 401k
when my salary is lower/lower taxes/etc. So the interest can grow tax
free, then in my 30s I would switch over to regular 401k. Its a judgment
call. I never had that choice to make, so now the only thing I can do is
the regular->roth transfer, as soon as possible and as much as possible
at a lower tax rate. As you salary increases and you pay much higher
taxes, at some point you may want to switch.
Don't forget you also will save state tax, in NC the rate is 7%, some states
of course don't have income tax so they may be even more incline to use
the roth.
Its a judgment call, personally, I'd like to have 40% in regular IRA,
40% in roth IRA, and 20% in taxable accounts, this keeps me tax
diversified.
There is no wrong or right way, you pay money and take your chances.
TJ