Author Topic: How to invest after 401K is maxed out?  (Read 4485 times)

krisvolley27

  • 5 O'Clock Shadow
  • *
  • Posts: 11
How to invest after 401K is maxed out?
« on: August 18, 2017, 08:21:03 AM »
I'm looking for advice on how to invest after I've maxed out my 401K.  I'm very fortunate to have a stable financial situation.  I chose the Roth option and invested the full $18K this year already in my 401K.  Here are more of my personal stats.
37 years old
Married, no kids
Husband makes $30K a year
I make $150K annual with 20% bonus
We owe $315K on our home.  The mortgage is $1800 but I pay $2500.  I want to pay this off but we also need the tax deduction.
We have no other debt
I put $1000 a month in my personal savings/emergency fund.  I have a goal of $50K, I'm about half way there.
I can't put money into an IRA because of our combined income being over $200K.
How can I make my money work for me?
I appreciate any advice you can give.  I'm the first in my family to have a six figure salary so I'm fairly ignorant when it comes to creative ways to save or invest.
Thank you!

martyconlonontherun

  • Bristles
  • ***
  • Posts: 367
Re: How to invest after 401K is maxed out?
« Reply #1 on: August 18, 2017, 08:27:00 AM »
I'm looking for advice on how to invest after I've maxed out my 401K.  I'm very fortunate to have a stable financial situation.  I chose the Roth option and invested the full $18K this year already in my 401K.  Here are more of my personal stats.
37 years old
Married, no kids
Husband makes $30K a year
I make $150K annual with 20% bonus
We owe $315K on our home.  The mortgage is $1800 but I pay $2500.  I want to pay this off but we also need the tax deduction.
We have no other debt
I put $1000 a month in my personal savings/emergency fund.  I have a goal of $50K, I'm about half way there.
I can't put money into an IRA because of our combined income being over $200K.
How can I make my money work for me?
I appreciate any advice you can give.  I'm the first in my family to have a six figure salary so I'm fairly ignorant when it comes to creative ways to save or invest.
Thank you!

How much is your house worth and why do you need the tax deduction? Depending on those answers, I would at least start paying down the mortgage to until you get $200k, that will still give you 10 years of interest payment deductions (though probably a little lower) but it will guarantee you could sell your house with equity for peace of mind.  Probably not the best financial advice, but having 2x your salary in debt for an extended period would eat at me.

RWD

  • Walrus Stache
  • *******
  • Posts: 6527
  • Location: Arizona
Re: How to invest after 401K is maxed out?
« Reply #2 on: August 18, 2017, 08:28:57 AM »
Read the recommended investment order. This should answer most your questions.

At your income you should almost certainly be using a traditional 401k, not Roth 401k.

Mortgage interest will always be more than your tax deduction. Never keep a mortgage around just for the tax deduction. However, if your interest rate is low enough you may consider continuing to make minimum payments and invest instead.

marielle

  • Pencil Stache
  • ****
  • Posts: 860
  • Age: 30
  • Location: South Carolina
Re: How to invest after 401K is maxed out?
« Reply #3 on: August 18, 2017, 08:34:37 AM »
Quote
I put $1000 a month in my personal savings/emergency fund.  I have a goal of $50K, I'm about half way there.

Is this necessary? How much do you spend in a year? Could you live off of your husband's salary and a smaller emergency fund for 6-12 months if you lost your job?

I think people could help you better if you posted a case study. What are your goals?

Laura33

  • Magnum Stache
  • ******
  • Posts: 3479
  • Location: Mid-Atlantic
Re: How to invest after 401K is maxed out?
« Reply #4 on: August 18, 2017, 09:00:52 AM »
1.  Switch Roth to traditional 401(k).

2.  Do you have an HSA available through work?  If you can live with the high-deductible health plan, this is an excellent way to save for future medical expenses.

3.  Do you have any existing IRAs in your name?  If not, do a backdoor Roth:  contribute the annual max to a traditional, non-deductible IRA.  The next day, convert that IRA to a Roth.  There are income limits on contributing directly to a tIRA or a Roth, but there is no income limit on rolling over a tIRA to a Roth.  The catch is that you have to pay taxes on any gains in your tIRA -- but if you do it the next day, there really shouldn't be anything worth worrying about.  [Note: if you have other deductible IRAs in your name, then the IRS will consider your conversion to be patially from your existing IRAs and partially from your new nondeductible one, meaning there are more taxes to pay, so it's probably not worth it in this case.]

3.a.  Do you and your husband have separate or combined finances?  If you have combined finances, make sure that he is also maxed out on his 401(k) at work, and do another backdoor Roth in his name (assuming he doesn't have other IRAs in his name) -- in the combined finances scenario, it doesn't matter whose income goes into the investments and whose goes toward the bills, right? 

4.  After that, just put it in a low-cost broad market index fund or ETF, like VTSMX/VTSAX -- index funds don't trade as much as actively managed mutual funds, so the tax hit usually isn't too bad.  You can also look for tax-efficient funds, but you want to make sure the management fees are very, very low -- there's not much point in saving a little on your taxes if you lose the difference to fees.

Also agree with marielle:  figure out how much you really need in an emergency fund + "sinking" fund [to cover things like expected big home maintenance, car replacement/repairs, etc.], and then put the rest in investments.  $50K in savings is earning at best 1% interest, as compared to 6-10% in the market.  If you don't want to do that, at least put the extra toward paying off the mortgage (which I am confident is costing you more in interest than your savings account is paying you).

IOW, don't let the taxes tail wag the dog.  There are three main drivers of financial success: (1) how much you put away; (2) what you earn on that amount; and (3) how much of what you earn you get to keep.  Taxes and fees both fall into (3) -- they definitely count, and you are right to focus on keeping them low, but they are not as important as (1) and (2).  So postponing/avoiding saving because you aren't eligible for a tax-deferred savings option, or putting that money in a bank account or money market earning 1% interest, will cost you a lot more than the taxes you would pay investing in a regular taxable index fund. 

Don't be intimidated into thinking you have to make a perfect choice here -- you are already doing better than 95% of the people out there given the amount you are saving/throwing at the mortgage, so just keep plugging away.

boarder42

  • Walrus Stache
  • *******
  • Posts: 9332
Re: How to invest after 401K is maxed out?
« Reply #5 on: August 18, 2017, 09:05:07 AM »
Please read the investment order post. 

Then after you read that you should realize that you should NOT be paying down your house.  There is no reason to pay down a house faster than normal payments and you say you need the tax breaks so why would you pay it down any faster.  If you want your money to really work for you tied up in a fixed asset that appreciates or depreciates regardless of how much of it you own is a bad choice. 

czr

  • 5 O'Clock Shadow
  • *
  • Posts: 60
Re: How to invest after 401K is maxed out?
« Reply #6 on: August 18, 2017, 09:11:20 AM »
What is the interest rate on the mortgage? That will determine if you pay that down or invest in others as mentioned.

krisvolley27

  • 5 O'Clock Shadow
  • *
  • Posts: 11
Re: How to invest after 401K is maxed out?
« Reply #7 on: August 18, 2017, 09:12:36 AM »
Thank you all for your responses!!

Marty: our house is worth $375K, we just bought it a year ago and only put 10% down.  We haven't had good success in the housing market so far.  I totally agree with your advice of paying the mortgage down to a reasonable level.

Marielle: I know this goes against everything on Mr. Mustache but I've never added up what we spend in a year.  It's a lot.  No we couldn't live off my husbands income due to our mortgage.  That is why I feel the large emergency fund is necessary.
My main goals are to pay the house down to a level where I could lose my job and work in a less lucrative field.  We've moved for my career three times.  We love where we are now and never want to leave but there aren't many job opportunities locally (very small town) so I would never find something that pays what I make now.  I would be fine with that as long as we could stay in our house.  I would like to be semi retired at 50 or maybe 55.  I enjoy working but I have a high stress job and it would be nice to still work but with less stress and responsibility. 

RWD:  I'm curious why you say I should invest in a traditional 401K vs. the Roth?  If I can afford to pay the taxes now doesn't it make more sense to have $18K saved that won't be taxed anymore vs. $18K saved that taxes will be taken out of at an unknown rate because its 20 years off?   Thanks for the recommended reading.

Laura:  Thanks for your well thought out response!!!!
I don't have an HSA - have two with small amounts in them from past employers
Very curious on this 401K advice from two of you now.  Maybe something I don't know about?
I have no existing IRA's.  Unfortunately, I had two in the past but my Mother got into trouble and I had to help her out.  At the time (several years ago) that was my only option so I took the penalties and used those funds. 
We keep our finances separate but we file taxes together.  Can he open a Roth in his name with the lower income?  I figured that wasn't an option because we file joint taxes.  I pay all the bills so no we aren't worried about that stuff.
I'll look into #4, thanks!!!
The Mortgage interest is 4% so I should put more toward that.
Thanks a ton everyone!

RWD

  • Walrus Stache
  • *******
  • Posts: 6527
  • Location: Arizona
Re: How to invest after 401K is maxed out?
« Reply #8 on: August 18, 2017, 09:27:59 AM »
RWD:  I'm curious why you say I should invest in a traditional 401K vs. the Roth?  If I can afford to pay the taxes now doesn't it make more sense to have $18K saved that won't be taxed anymore vs. $18K saved that taxes will be taken out of at an unknown rate because its 20 years off?   Thanks for the recommended reading.

Because it costs $25k to get $18k in the Roth 401k (assuming 28% bracket, ignoring state taxes). When you do the traditional 401k it costs $18k to get $18k. In the future when you're withdrawing your tax bracket will almost certainly be lower because you won't have normal income anymore.

Some reading:
http://www.madfientist.com/traditional-ira-vs-roth-ira/

Laura33

  • Magnum Stache
  • ******
  • Posts: 3479
  • Location: Mid-Atlantic
Re: How to invest after 401K is maxed out?
« Reply #9 on: August 18, 2017, 11:13:08 AM »
Very curious on this 401K advice from two of you now.  Maybe something I don't know about?
I have no existing IRA's.  . . . .
We keep our finances separate but we file taxes together.  Can he open a Roth in his name with the lower income?  I figured that wasn't an option because we file joint taxes.  I pay all the bills so no we aren't worried about that stuff.

1.  He can't open a Roth directly because of your combined income.  But he can do the same backdoor Roth you can as long as he has the earned income to do so.

2.  Roth vs. traditional:  this is tax bracket arbitrage.  Right now, you guys are in the, what, 25-28% tax bracket?  That means that first you pay federal and state taxes on your income, *then* that money goes into the Roth.  So, like RWD says, you are taking probably $25K of your gross income in order to invest $18K of it. 

So, first, investing in a tIRA will lower your reported AGI.  For many people, that means that right now, your marginal tax rate is lower -- maybe it goes from 28% to 25%.  So, for ex., the 28% bracket currently starts at $151,900.  If you make $210K, but both of you max your t401(k)(so $36K), that brings your reported income down to $184K; if your other deductions bring that down below $151,900, then you pay no taxes at 28%.  But, second, even if your marginal rate stays at 28%, you're still avoiding paying 28% federal tax (and whatever in state/local tax) on $36K of income. That is $10K more in your pocket every year (just from the federal taxes) that you can invest in something else.

This is where the arbitrage comes in:  when you retire, do you think you will still be in the 28% tax bracket -- i.e., are you going to have so much money invested that your future AGI is going to be above $151,900 (in today's dollars)?  Not many people plan on that -- especially here (remember also that capital gains are taxed at a lower rate, and you can sell any post-tax asset at a loss or no gain and not owe any taxes on that withdrawal, so an AGI above $150K is going to mean pension + SS + investments, or a shit-ton of investments and capital gains).  In fact, most people here plan on retiring on closer to $50-75K -- which would put you firmly in the 15% bracket.

So in other words, you are currently paying 28% federal tax (+ whatever for the state) on that $18K you put it into a Roth.  If you put that money into a traditional 401(k) instead, you will more likely be paying 15% federal tax (+ likely lower for the state as well) when you take it out.  So choosing the Roth now is costing you 13 percentage points in federal tax right now.

The time when the Roth 401(k) math works is when you think your retirement tax bracket will be higher than your current tax bracket -- so, for ex., if you are a medical resident making $40K/yr, but you are about to take a $500K/yr job, and your target retirement income is $200K/yr, you would likely be better off in a Roth until you start making those big bucks. 

farmecologist

  • Pencil Stache
  • ****
  • Posts: 601
Re: How to invest after 401K is maxed out?
« Reply #10 on: August 18, 2017, 11:17:52 AM »
We max out both of our traditional 401K's ($36K) and then end up putting some into 529 plans for college savings and the rest into savings to beef up our 'emergency fund'.

« Last Edit: August 18, 2017, 11:45:37 AM by farmecologist »

dandarc

  • Walrus Stache
  • *******
  • Posts: 5454
  • Age: 41
  • Pronouns: he/him/his
Re: How to invest after 401K is maxed out?
« Reply #11 on: August 18, 2017, 11:35:25 AM »
Chiming in to point this out:

You claim you "need" the tax deduction from mortgage interest, which is around $12K.

Yet you go Roth in your 401K - leaving an $18K tax deduction on the table.

That is inconsistent reasoning, in my opinion.  Now, that being said:

1) The math pretty clearly says you probably should keep the mortgage as long as possible (assuming it is fixed-rate), and invest money.  If you will actually invest the money that you otherwise would have thrown at the mortgage.

2) We actually don't have enough information from you to really know if you're making a good Roth vs. Traditional decision with the 401k.  The decision is basically taxes saved today (known) vs. taxes that will paid on withdrawal (unknown, but decent estimate can be made).  At $210K gross income, usually the traditional is the better play.  But there are exceptions.  Your retirement income, and therefore income tax paid, is generally driven by your spending.  You haven't given us an estimate of your planned retirement spending.  You're on an early-retirement / frugality forum, so the assumption would be that your household current spending and planned retirement spending is much lower than your current income, but you've also admitted to not knowing your current spending.  So for all I know, you could be the exception to the rule that high income = traditional is better.

I second the suggestion of a full case-study.  https://forum.mrmoneymustache.com/case-studies/how-to-write-a-'case-study'-topic/

krisvolley27

  • 5 O'Clock Shadow
  • *
  • Posts: 11
Re: How to invest after 401K is maxed out?
« Reply #12 on: August 18, 2017, 11:52:41 AM »
Thanks!  I'll take a look at the case study.

Pylortes

  • Stubble
  • **
  • Posts: 183
Re: How to invest after 401K is maxed out?
« Reply #13 on: August 19, 2017, 06:16:47 PM »
Just chiming in to also say you really need to switch from a Roth 401k to traditional.  The reasoning has been explained above and you can read up on it in some of the links and with you own research.  I've read up plenty on the topic and initially thought as you do.  I've since been convinced that the traditional route is far superior if you are in a higher tax bracket.

boarder42

  • Walrus Stache
  • *******
  • Posts: 9332
Re: How to invest after 401K is maxed out?
« Reply #14 on: August 20, 2017, 06:39:07 PM »
Is there a reason you ignored my comment. Bc your reason for paying your house down is creating the inverse proportion to the risk you're trying to mitigate.  It's likely bc you don't understand. But understanding could go a long way towards feeling secure and happier. And paying down your house contradicts your reason for doing so.