IRA-401k Trap :)

[pb4uski]

Quote:

Originally Posted by nokkieny Money I can't touch for 30 years, in a government created account structure? I would be stupid not to consider this a trap. Wanting to retire much earlier than I can touch the money .....

When you made those contributions and accepted the benefit of not paying taxes on that income, did you understand that that when you did eventually withdraw it that it would be taxable income? and that if you accessed that money before you were 59 1/2 that there would be a penalty?

If so, then what is the problem and why is it a trap? If not, then shame on you for not paying attention.

Similarly, assuming you have known all along that you want to retire before 59 1/2 what is the problem? You just need to plan ahead. Stop whining.

[nokkieny]

Quote:

Originally Posted by pb4uski When you made those contributions and accepted the benefit of not paying taxes on that income, did you understand that that when you did eventually withdraw it that it would be taxable income? and that if you accessed that money before you were 59 1/2 that there would be a penalty? If so, then what is the problem and why is it a trap? If not, then shame on you for not paying attention. Similarly, assuming you have known all along that you want to retire before 59 1/2 what is the problem? You just need to plan ahead. Stop whining.

I don't know for sure its trap, but with the way things are going I feel like tax rates will probably go up. However, the tax savings help immensely now and I consider it diversification. I have no plans whatsoever to have more than 25% of my net worth in tax deferred accounts. The idea is that when I do withdraw I don't have to withdraw so much that I am getting into higher tax brackets, it will sorta just be like extra money.
But yes my accountant is suggesting I invest elsewhere and I know it is important not to rely on IRAs.

[daylatedollarshort]

Quote:

Originally Posted by nokkieny Money I can't touch for 30 years, in a government created account structure? I would be stupid not to consider this a trap. Wanting to retire much earlier than I can touch the money, my goal for deferred retirement has been moderation. Save enough outside of retirement accounts and hopefully be able to pull from tax deferred at the lowest tax rate (hopefully that rate is still low).

Thirty years before 59.5 is 29.5, so most people aren't going to be able to retire at that age and expect to live off retirement account money.

There are many loopholes that allow people to access retirement account money before age 59.5. Those who retire the year they turn 55, ten years earlier than 65, or later may be able to make penalty free withdrawals from their last employer 401Ks (plus any IRAs rolled over into that account).

[Alan]

Quote:

Originally Posted by daylatedollarshort Thirty years before 59.5 is 29.5, so most people aren't going to be able to retire at that age and expect to live off retirement account money. There are many loopholes that allow people to access retirement account money before age 59.5. Those who retire the year they turn 55, ten years earlier than 65, or later may be able to make penalty free withdrawals from their last employer 401Ks (plus any IRAs rolled over into that account).

+1

There is also the 72t rule that allows one to withdraw penalty free from IRAs well before age 59.5. I have never thought that the IRA and/or 401k money was legally untouchable without penalty until 59.5.

[Sirka]

Quote:

Originally Posted by samclem Something to consider, .. If the couple is MFJ and near the top of the 15% bracket, a single surviving spouse can find herself well into the 25% bracket--paying 10% more taxes on the RMDs and also losing all the zero-tax CG and dividends--it can be a big hit.

Thanks, I will add this reason to my Roth Conversion list. We are near the top of the 15% bracket every year, because we convert to Roth. When DW starts to collect SS we will have to stop conversions.

Nevertheless 401k is a great way to delay paying taxes util it's manageable.

[Chuckanut]

IRA's, 401K's, 403b's, etc. are tools we can use to help insure our financial future. Like any tool we have to choose the best one for the job. No tool may be perfect, but we try and choose the best.

[unno2002]

The "trap" I see with IRA/401k type accounts is the requirement to start withdrawal when you reach age 70 1/2.


In essence the “baby boom” generation began in 1946. The leading edge of the boomer generation hit 62 in 2008.


The first of the “baby boom” generation reach 70 ½ in the year 2016. Every year thereafter everyone over that age must withdraw more money, and more people attain that age.


Consider what happens to the price of the account investments when every year more have to be sold & the funds withdrawn?

[REWahoo]

Quote:

Originally Posted by unno2002 The "trap" I see with IRA/401k type accounts is the requirement to start withdrawal when you reach age 70 1/2. In essence the “baby boom” generation began in 1946. The leading edge of the boomer generation hit 62 in 2008. The first of the “baby boom” generation reach 70 ½ in the year 2016. Every year thereafter everyone over that age must withdraw more money, and more people attain that age. Consider what happens to the price of the account investments when every year more have to be sold & the funds withdrawn?

Another urban legend.

Vanguard: Boomer Retiree Wave Won't Crash Market

[LOL!]

With all the discussions and threads about how to convert a tIRA to a Roth IRA and pay no income tax on the conversions, I don't see how contributing the max to a tIRA/401(k) is a trap.

Perhaps the trap is being ignorant of the tax laws?

[GrayHare]

Anyone who has saved enough to be trapped by retirement accounts is not able to convert to Roth without being taxed on the conversion. All those capital gains are taxed at ordinary rates regardless of whether you pay Uncle Sam now (Roth) or later (RMDs).

[Chuckanut]

Some people want a new highway to the seashore, downhill both ways.

It ain't gonna happen.

I doubt if baby boomers selling stocks because of RMD is going to drive the market down. I also doubt if all the tax revenue these sales generate is going to do away with the Federal deficit.

[Rustward]

Quote:

Originally Posted by unno2002 Consider what happens to the price of the account investments when every year more have to be sold & the funds withdrawn?

Somebody correct me if I am wrong. One can take an RMD in kind. Stocks and funds do not have to be sold. Even if you decide to sell an asset and take the RMD in cash, there is nothing stopping anybody from reinvesting that cash in a brokerage account, after paying income taxes on it. If the money gets spent instead of reinvested, is that such a bad thing for the economy in the long run?

Unno, when you use the word "withdrawn" are you talking about a withdrawal from the markets, or withdrawal from a tax-deferred account.

[mpeirce]

Quote:

Originally Posted by Rustward Somebody correct me if I am wrong. One can take an RMD in kind. Stocks and funds do not have to be sold. Even if you decide to sell an asset and take the RMD in cash, there is nothing stopping anybody from reinvesting that cash in a brokerage account, after paying income taxes on it.

I was thinking along these lines too.

Basically, the feds are saying they want their taxes. So you have to extract a certain amount of money/assets from the IRA each year and pay the taxes on it. That's always been the deal with an IRA - it's tax deferred, not tax exempt.

Once you factor out the taxes you still have money/assets and you can either spent it or put it back to work in investments as you see fit.

[LOL!]

Quote:

Originally Posted by GrayHare Anyone who has saved enough to be trapped by retirement accounts is not able to convert to Roth without being taxed on the conversion. All those capital gains are taxed at ordinary rates regardless of whether you pay Uncle Sam now (Roth) or later (RMDs).

That's like saying anyone who is trapped is trapped. I might suggest they forgot to retire early when they had the chance.

We have been contributing the legal maximums to all our retirement accounts for more than 35 years. We ain't trapped.

[CaliforniaMan]

Quote:

Originally Posted by LOL! That's like saying anyone who is trapped is trapped. I might suggest they forgot to retire early when they had the chance. We have been contributing the legal maximums to all our retirement accounts for more than 35 years. We ain't trapped.

One of the big incentives that kept me contributing to my 401k all these years, usually at the max like you, was the tax incentive. It was for example something like... hmmm, I could put 40k into my savings or pay an extra 13K in taxes. So that 40K only cost me 27K. I really only had to save 27K more than if I had not contributed. Paying 27K to get 40K always seemed like a pretty darn good deal.

The fact that it was somewhat "locked" away meant I was very unlikely to touch it, unlike if it had been in an after tax brokerage account. Sometimes these "traps" can saves us from ourselves.

If you want to retire earlier than 59.5 then of course you need alternative investments as well as the 401K/IRA and SS.

I never felt it was a trap either, just a great opportunity.

[GrayHare]

Quote:

Originally Posted by LOL! That's like saying anyone who is trapped is trapped. I might suggest they forgot to retire early when they had the chance.

The trap is they could have retired even earlier had they avoided the IRA entirely because they would instead pay tax on gains at the CG rate. IRAs are all about tax rates now vs. later.

[Animorph]

Quote:

Originally Posted by GrayHare The trap is they could have retired even earlier had they avoided the IRA entirely because they would instead pay tax on gains at the CG rate. IRAs are all about tax rates now vs. later.

If the tax rates into and out of the tIRA are the same, you still get free growth. Effectively a 0% CG rate. If you can get 0% CG tax rate in a taxable account then you don't need a tIRA. If the tIRA withdrawal tax rate is some amount higher than what you avoided when putting the money in, then it is possible the higher tax rate could exceed your savings in CG taxes and the tIRA has cost you. Otherwise the tIRA is saving you something, even if not as much as you would like.

[RunningBum]

There's a bit more to both of the above. If you are paying 25% on some of what you are withdrawing, you might have been better off investing that excess in a taxable account and paying 15% LTCG--UNLESS you were deferring from a much higher bracket. Not sure on the math, if it is 35% or what the line would be, but I think there is some point at which it is better to defer the very high taxes and pay 25% later rather than paying all taxes on the income and investing for LTCGs. Also, it's very likely that you would want to be putting SOME in the IRA, but maybe not maxing it out if you figure out that it'll put you into the 25% bracket.

If you are pulling it out at 15% it's doubtful that you'd have been better off keeping it in a taxable account and pulling LTCGs, especially if you were deferring from a higher than 15% rate.

Also, trying to manage it in a taxable account forces you to keep gainers for at least a year. In a 401K you can trade as often as you want, if that's your thing. On the other hand, you can do tax loss harvesting in a taxable account.

Then there's the discipline thing, keeping your hands off that taxable account that you plan to use for retirement.

Having some money in a taxable account sure helps bridge the gap until you can tap into your IRA, pension, and social security, but you probably don't need it all there.

I maxed out my 401K for at least the last 15 years and now that I'm seeing that I'm converting up to 25% for a couple of years I probably shouldn't have done this when I went part-time the last couple of years, but it's probably close to a wash. In my early low income years I was only going up to the company match and that would seem to have been a good choice.

[RetireAge50]

Tax deferred is better if in retirement you are in the same or lower tax bracket.

If you do not think this is true please explain and show math.

[pb4uski]

Quote:

Originally Posted by GrayHare The trap is they could have retired even earlier had they avoided the IRA entirely because they would instead pay tax on gains at the CG rate. IRAs are all about tax rates now vs. later.

No way. I would have paid 25% or more in taxes when I saved in the 401k and then 15% on any growth. Where now in ER I'm paying about 7%. So tax deferral has saved me 18% or more.