Roth Growth Untaxed...why?

It is to encourage people to save for their retirement, since so few do. But not to worry, once there is plenty of dough in the Roths, the tax laws will be changed to tax them too.

If it were taxed, it would be just like any other investment. The whole point is to give people an incentive to save for retirement, and making the growth tax-free does this.

Let me offer a (contrived) scenario -

You deposit $10,000 in a pretax (IRA or 401(k)) account. It grows 10 fold. At withdrawal time, the $100,000 is taxed at 25% and you net $75,000.

OR

You net $7500 and deposit to the Roth. It grows 10 fold and you have $75000.

Now, these examples are not so much contrived as over simplified. For the pretax money, it comes off the top, the marginal rate, but it get withdrawn at potentially 0/10/12/22, etc. But, the examples show how, given the time value of money, it may be nearly identical to the government.

I think you meant "IGNORING the time value of money". :-) Given even moderate inflation, the time value of money is likely to be quite significant.

Also, you're assuming that the taxpayer's marginal rate after retirement will be identical to what it is now. That's unlikely, both because Congress changes the rates every few years and because the taxpayer's taxable income will probably be different in retirement from what it is now.

The decision between investing in a Roth and investing in a traditional IRA comes down to _guessing_ whether your marginal tax rate will be higher or lower when you withdraw the money than when you invest, _guessing_ what your investment gains will be, and _guessing_ the right factor to apply for the time value of money over a span of perhaps decades, and _guessing_ how much you'll actually need to live on. That last one is relevant because a traditional IRA has a Required Minimum Distribution, which you must withdraw whether you need the money or not; but a Roth IRAs doesn't (during the lifetime of the person who paid into it), so if possible you want to arrange things so that the RMD each year is no greater than you actually need to withdraw anyway.

Because of all these unknowns, the advice that appeals to me (and which I wish I'd seen back when I could have acted on it) is to invest in both a Roth and a traditional IRA, perhaps splitting annual contributions 50-50. This follows the standard investing advice to diversity one's investments as far as is practical.

Stan, yes, the issue itself really doesn't allow for even an over-simplification. Only perhaps a long series of if/then scenarios. If I can look at your last paragraph? My advice tends towards using the Roth when starting out. Single, up to $40K MFJ $80K. Why, in the world go pretax on any of it? Matched 401(k) will build up the pretax side of the investing anyway. Then, use pretax for money that will break though the next bracket, used to be 25%, now 22%.

For me, Roth came too late. It seemed silly to pay 28%, when it was tough to imagine saving enough to hit that bracket in retirement. In hindsight, I'll admit I wish I had carefully put aside some fraction in Roth. Mostly, to keep from obsessing about being in phantom brackets for phaseouts such as the $4000 college credit, and to better manage Medicare cost.

Last - The change to the tax code, removing the stretch provision and forcing a 10 year withdrawal was, in my opinion, unconscionable. I realize tax codes change, but this one change flipped the potential tax consequences from all the strategizing I suggested to making it awful. We only have one child, and if her joint income is high enough, every cent of withdrawal may be taxed at a higher rate than when we saved. Far worse than if spread over her lifetime. So, yes, your 50/50 is back to being the best advice, if only for the fact that we can't have a clue what the tax code will bring. Be well, thx for listening.

With the Roth, you pay $2500 tax today, or with the regular IRA, you pay $25000 tax 30 years from now. Sure sounds like time value of money to me.

Of course it is. However whether it's a regular IRA or a Roth, over the same time period the proportionate increase in value should be the same. So to compare the two it's really about the tax rate at any relevant time, because that will determine what the bottom line difference is.