I think the rule of thumb has always been, fund the 401k up to the employer match, then stop and fund the Roth IRA, then go back to the
401k, right?
So now that "Roth 401k's" are appearing, how should that order change? My employer now offers the Roth 401k, but in order to fund it over $500 i'd have to forgo some of my normally maxed 401k contributions. (My Roth IRA would still get maxed either way)
I plan on being in a lesser tax bracket upon retirement.
See the posts titles "Roth 401(K)?" which was recent, Jan 4 latest post. I maintain that the decision, Roth 401(k) vs standard 401(k) should be based on the current vs future tax rate. If taxes are assumed the same, there is no difference. (Except, of course, the Roth is a denser account. i.e. The 401(k) limit is 15,000 for 06. $15,000 of pretax money. If you earn enough to be in the 25% bracket, and choose the Roth, it takes $20K of pretax money to net the $15,000. So a fully funded Roth has 'more' money in it.) This may have been the point others were making in the original thread. JOE
My thought is to use the traditional 401k until a person knows (can estimate) what their RMD will be relative to tax rates at the time of the RMD. Use the Roth IRA to compliment this when young, then possibly use Roth 401k closer to retirement to minimize impact of RMD's being too high.
I am in 25% tax bracket now- there are two defined brackets below my income level now, and I am close to being in 28% tax bracket (within 5 years?). My RMD would be projected into 25% tax bracket, possibly the bracket below this, so it makes sense to maintain traditional 401k until I see this trend change.
The contribution total to your 401(k) is a total of 15,500 for 2007. You cannot double up by contributing 15,500 to the traditional portion of your 401(k) and then contribute some more to the Roth portion.
If you believe that your marginal tax rate will be lower in retirement, then the traditional 401(k) is the better savings vehicle.
Sorry didn't have time to follow up until now, so I'm doing it here instead of the older thread.
I don't agree, here is a counter-example, where with a constant tax rate the Roth comes out better.
Here is a two-year scenario: assume a constant combined fed/state tax rate of 30% for all years. Assume all investments earn 5%, compounded annually.
For a Roth, we put in $10K after tax and get the following after tax result.
Year Roth IRA
2006 10000
2007 10500
2008 11025
For a Traditional, we put in $10K pre-tax, and invest the $3K tax savings in a side account (which is taxed every year, of course).
Year Trad IRA side account (after tax)
2006 10000 3000
2007 10500 3105
2008 11025 3213 -3307 tax +3213 side account Total 10931
Now, if you do this in a spreadsheet, and run it out for maybe another ten years, the relative difference is even greater, hence the original conclusion that I think we have been differing over, "the longer you have the Roth, the more it shines". It looks to me like this is indeed the case.
Now, it is true that it only takes a very small drop in tax rate in the final year to push the traditional over the Roth, much smaller than my gut feeling initial led me to guess.
If you think you really have control over that, then the choice is a no-brainer. Take as many deductions as you can now. However, most of us can't really say what our tax bracket will be in retirement since tax rates themselves may change.
That said, one of the things to keep in mind with a regular
401(k) vs a Roth 401(k) is that with the regular 401(k) both the contributions and the match are tax deferred. This simplifies accounting for tax purposes since there is none...you just pay regular income tax when upon withdrawal. With the Roth
401(K), the matching funds are tax deferred and while the contributions are post tax. The custodian has to track these things and they will have to continue to be tracked if you rollover to different plan or a rollover IRA. The headache of having to track that separately would itself be a deterrent for me. Plus I'd rather take the deduction today. I live in CA which has one of the highest tax rates and maybe when I retire I'll be in a state with no income tax. :)
If you think you really have control over that, then the choice is a no-brainer. Take as many deductions as you can now. However, most of us can't really say what our tax bracket will be in retirement since tax rates themselves may change.
That said, one of the things to keep in mind with a regular
401(k) vs a Roth 401(k) is that with the regular 401(k) both the contributions and the match are tax deferred. This simplifies accounting for tax purposes since there is none...you just pay regular income tax when upon withdrawal. With the Roth
401(K), the matching funds are tax deferred and while the contributions are post tax. The custodian has to track these things and they will have to continue to be tracked if you rollover to different plan or a rollover IRA. The headache of having to track that separately would itself be a deterrent for me. Plus I'd rather take the deduction today. I live in CA which has one of the highest tax rates and maybe when I retire I'll be in a state with no income tax. :)
Try putting the $3K savings into the Traditional IRA account along with the original $10K and see what happens. I know, I know, you can't put $13K in a traditional IRA account all at once. But then, you can't put $10K into a traditional IRA account all at once either. But $13K is allowed (depending on the plan) in a traditional 401(k)...
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