Author Topic: Should I be directing my excess to my 401k or brokerage account?  (Read 739 times)

Frugal Frieda

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Should I be directing my excess to my 401k or brokerage account?
« on: December 17, 2016, 07:43:57 AM »
Hello Mustachians!  While I am past the point of being an 'early' retiree, I found this website as I searched for ways to do better.  I was already more careful with money than most, but I have done quite a bit of fine tuning -- and continue to do so -- and have seen explosive benefits.  As I now have excess funds every month to invest, given my age and current balances, I'm not sure whether I should be putting it into my 401k or my brokerage account (in index funds, of course), relevant to my age.  I'm expecting I should be maxing out my 401k as I am unlikely to retire before 60, when I can cash in on it anyway, but thought I would check.  I made many mistakes in the past, have cleaned them all up, and in the high cost of living area where I am located where people regularly work until 70 or until they drop, retiring at 60 given the HUGE mistakes I made when much younger, will be an accomplishment I will be proud of.  Meanwhile, I have reaped the benefits of a simpler life for quite a few years, and those benefits have increased even more since finding this blog.

Age:  50
Own my own home @ approximately 500k, and no debt or mortgage
401k :  160k, all index funds
ROTH IRA:  40k, all index funds
Brokerage account:  40k, all index funds
My income is increasing and my expenses lowering.  They are not now where they will be one, two or six months from now.
My retirement goal is to live on 35k a year (I am in an uber high expense area), and I am currently saving 25k a year and expect that to be up to 37k a year six months from now.  By saving, I mean money I am depositing into funds and am not including dividends or capital gains.

Throw monthly excess into brokerage or 401k???
« Last Edit: December 17, 2016, 09:23:13 AM by Frugal Frieda »

babybug

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Re: Should I be directing my excess to my 401k or brokerage account?
« Reply #1 on: December 17, 2016, 08:00:53 AM »
What is your income?

Obviously the 401k contribution is tax deductible so max the 24k/year. After that I'd do brokerage because it will probably have more fund options and there's no further advantage to 401k.

Depending on your income a Roth IRA might have further tax advantage.

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Frugal Frieda

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Re: Should I be directing my excess to my 401k or brokerage account?
« Reply #2 on: December 17, 2016, 09:17:48 AM »
Thanks for your response.
It's hard to imagine a Roth IRA being of much use at 50 years old since it is after tax money and I will most certainly be in a lower income bracket once I retire.  I've updated my stats above.

MDM

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Re: Should I be directing my excess to my 401k or brokerage account?
« Reply #3 on: December 17, 2016, 09:32:27 AM »
Throw monthly excess into brokerage or 401k???
401k.

See Investment Order for more details.

Frugal Frieda

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Re: Should I be directing my excess to my 401k or brokerage account?
« Reply #4 on: December 17, 2016, 11:22:02 AM »
Thanks MDM, that's very helpful.  I did check that timeline, but a couple of things don't seem like they would be one size fits all.  If you can clarify, it would help.

The list prioritizes 401k up to match, then traditional ROTH, then max non-matched 401k, in those orders (with a few other things inserted).  It seems that age should be an important factor in this.  For instance, for a 20 year old who will retire very young, they will need substantial non-401k funds and if they do in this order, they may end up with substantially more 401k than non-401k, which they will need first, depending on how much they are actually able to contribute each year.

On the other end of the spectrum, I am 50.  There is no match on my 401k but I get an employer contribution whether or not I contribute.  We also have a 401k plan that allows you to contribute on a before tax basis (traditional 401k) or an after tax basis (401k ROTH).   Contributing to the 401k ROTH -- or any ROTH -- at age 50, with a very high income, means I will be getting heavily taxed now, with only 10 years to go to retirement, when my taxes will drop significantly.  My max allowable 401k or 401k Roth contribution is 24k per year (18k limit, plus 6k catchup because I am 50, and my employer contributes and additional 6k).

I have emergency savings, own my home free and clear, have no debt and max out my HSA already.  How might the other figures regarding the order in which you contributed to a 401k/roth/brokerage work for someone of my age?
« Last Edit: December 17, 2016, 11:25:07 AM by Frugal Frieda »

MDM

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Re: Should I be directing my excess to my 401k or brokerage account?
« Reply #5 on: December 17, 2016, 11:53:08 AM »
Thanks MDM, that's very helpful.  I did check that timeline, but a couple of things don't seem like they would be one size fits all.  If you can clarify, it would help.
One should always consider this, or any other internet advice, in light of one's own situation.  Having said that....

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The list prioritizes 401k up to match, then traditional ROTH, then max non-matched 401k, in those orders (with a few other things inserted).  It seems that age should be an important factor in this.  For instance, for a 20 year old who will retire very young, they will need substantial non-401k funds and if they do in this order, they may end up with substantially more 401k than non-401k, which they will need first, depending on how much they are actually able to contribute each year.
It's possible, but difficult for most, to have "too much" 401k.  E.g., see http://forum.mrmoneymustache.com/investor-alley/how-to-withdraw-funds-from-your-ira-and-401k-without-penalty-before-age-59-5/.  If one has very low expenses in retirement, even paying the 10% early withdrawal fee might be a win compared with saving 25% or so when contributing.  If one has high expenses in retirement, 401k plus IRA contributions might not be enough to fund those and one will be "forced" to have a taxable account anyway.
To clarify, after the 401k up to the match comes the IRA, either traditional or Roth, depending on current savings vs. expected withdrawal tax rates.

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On the other end of the spectrum, I am 50.  There is no match on my 401k but I get an employer contribution whether or not I contribute.  We also have a 401k plan that allows you to contribute on a before tax basis (traditional 401k) or an after tax basis (401k ROTH).   Contributing to the 401k ROTH -- or any ROTH -- at age 50, with a very high income, means I will be getting heavily taxed now, with only 10 years to go to retirement, when my taxes will drop significantly.  My max allowable 401k or 401k Roth contribution is 24k per year (18k limit, plus 6k catchup because I am 50, and my employer contributes and additional 6k).
So for you, traditional will likely be better than Roth.

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I have emergency savings, own my home free and clear, have no debt and max out my HSA already.  How might the other figures regarding the order in which you contributed to a 401k/roth/brokerage work for someone of my age?
By "roth" here I assume you mean "IRA" and that due to your income you cannot deduct a traditional IRA - correct?

If so, the ordering still works for you.  Because traditional is better for you (high tax now, low tax when withdrawing) the 401k is advantageous (unless it has truly awful fees) and should be filled first.  Then a Roth IRA beats a taxable account so the Roth IRA is next, followed by the taxable account.

Does that make sense?

overwhelmed

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Re: Should I be directing my excess to my 401k or brokerage account?
« Reply #6 on: December 17, 2016, 12:26:07 PM »
Hi Frugal Frieda -

I will be 50 in a few months so I thought I would jump in here quickly to add something.

The post that MDM just added above I think may be helpful in a few ways (his link will take you to the beginning, this link will jump you over to page 3)- http://forum.mrmoneymustache.com/investor-alley/how-to-withdraw-funds-from-your-ira-and-401k-without-penalty-before-age-59-5/100/
Mother Fussbudget post #108 gave a great explanation of the Rule of 55 (which I will not attempt to paraphrase) but it was news to me this morning & if my 401k plan allows for it, makes figuring out retirement significantly easier for me. Reading the entire post helped me a lot to understand the different options I will have whether I retire at 55 or later.

Hope that helps some

Frugal Frieda

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Re: Should I be directing my excess to my 401k or brokerage account?
« Reply #7 on: December 18, 2016, 06:30:40 AM »
Thanks MDM and Overwhelmed -- these are both very helpful responses!  I have never heard of the rule of 55 and will be reading up on it this weekend.  It certainly does change things.  In any case, I think both of your responses rightly direct me to my 401k traditional, and I will start pumping money in there.  I've been very excited about the changes I made before finding this blog, and am doubly excited about the changes I've made since.  Thank you everyone for your thoughtful answers.