Confused on maxing out 401K vs investing in VTSMX/VTSAX

[ellbellkbm]

Hi all MMMers!

I'm 25 and am just getting started with FIRE. I read JL Collins "The Simple Plan to Wealth" in a weekend and am ready to get started but am confused on why I should be maxing out my Roth 401K vs investing more into VTSMX / VTSAX.

Currently I have a Rollover IRA with just under $4K in it, a brand new Roth IRA account with $350 and I also have a Roth 401K with $7,300. I currently am finishing paying off my last student loan and should have it done by the end of the year (woohoo!), so this is all planning for what happens when that is done.

When I'm done with my loan, The most I'll have to invest each year is $25,650. So following the order in what to invest in, I'll max out the Roth IRA at $5,500 and then max out my Roth 401K at $18,500. That leaves me only $1,650 to invest in VTSMX / VTSAX each year. I'm wondering why it should be done in that order because if I were to retire in 20 years or so like I'd like to do, I wouldn't have very much in the VTSMX / VTSAX accounts, only the Roth 401K and IRA which I'll get penalties on drawing early. I'd like to not touch that IRA or Roth 401K until there's no withdrawal penalty which makes me think I should just keep investing up to the match in my Roth 401K, hit the max on the IRA, then invest the rest of the $26,650 into a VTSMX / VTSAX account.

Can someone walk me through why I should be maxing out the 401K vs investing all I can into VTSMX / VTSAX? Appreciate any and all help!

[Revelry]

Go read the rest of jlcollins series, specifically http://jlcollinsnh.com/2015/06/02/stocks-part-viii-the-401k-403b-tsp-ira-roth-buckets/.

[terran]

VTSAX is a type of investment (a mutual fund). An IRA or 401k is a type of investment account, as is a taxable brokerage account.

Also consider whether or not you should be prioritizing Roth over tax deferred: https://www.madfientist.com/traditional-ira-vs-roth-ira/

[Rob_bob]

Since you can invest in VTSAX in an IRA and a Roth and in a Roth 401k if it is in the funds list it sounds more like your question is about getting to your money before you reach 59.5 years old.

Read this:
https://forum.mrmoneymustache.com/investor-alley/how-to-withdraw-funds-from-your-ira-and-401k-without-penalty-before-age-59-5/

[Scandium]

Why only Roth accounts? How much do you make, what's your tax bracket? If you have $26k to "spare" you may be in a higher bracket and would benefit from lowering taxes now.

[MDM]

See the 'Basic Terms' tab in the case study spreadsheet in case a picture helps.

[MustacheAndaHalf]

Accounts have different tax treatments: a 401(k) account is not taxed now but will be taxed at ordinary income tax rates upon withdrawal.  Your individual brokerage account is funded with after-tax dollars, and you pay additional tax on any gains from your investments or any dividends.

You could buy VTSAX in either your 401(k) or individual (taxable) account.  In the 401(k) the dividends would not be taxed until you remove them from the 401(k).  In an individual account, you pay taxes on dividends you receive - but it's usually a small amount.  Right now VTSAX pays about 1.7% of it's value in dividends, and qualified dividends are taxed for most people at a lower 15% rate.  So you'd pay about 0.255% of your investment (1.7% dividend x 15% tax rate).

If you can't select VTSAX in your 401(k), go with the mutual fund with the lowest expense ratio.  It's nearly always an S&P 500 or total stock market fund.