Author Topic: Tax Advantaged Retirement Accounts vs. House Down Payment Saving  (Read 4165 times)

jmechanical

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I am a 27 year old single male mechanical engineer. I searched (I admit, somewhat briefly) and found some posts similar to what I am asking, but most people had debts or situations slightly different enough that I still felt the need post.

My income/savings details on a bi-weekly basis:

Regular Income: $2830
Federal: $339.57
State (rate is 5.75% for my state): $104
Social: $173.67
Medicare: $40.61
Medical / Dental Ins: $28
401k Contribution: $700
401k Match: $85
Roth IRA Contribution: $220
Vanguard Taxable Savings: $220
All other Expenses: $1004

This puts my savings rate around 40% of my gross income, or around 50% of my after tax.

I am not completely mustachian in my expenses, I know where I can improve (get a roommate, cut down on the drinking/going out, buy less expensive food), so you're not going to tell me anything that I don't already know. I am comfortable with my spending and savings rates and time to FIRE, so I am not really looking for advice in that department and am not going to go into a breakdown of expenses, but feel free to face punch away anyway.

Savings Balances

Vanguard Traditional IRA: $40,870
Vandguard Roth IRA: $9,100
Vanguard Taxable: $11,100
Company 401k: $16,940
Savings Account: $3000

Total: $81,000

Total Non-Retirement: $14,100

I have zero debt, no car loan, no student loan, no credit cards. I live 3 miles from work in an apartment by myself and have a reliable 2012 car with 74,000 miles, so I don't think it will need replacing / major repairs soon. I bike to work a few times a week.

I live in a decent sized city where townhomes / condos go for anywhere between $120k to $200k in my area. I like living close to work / living in the city and prefer going to a park instead of having my own yard to maintain. Also most houses are far too big for me and more expensive. I volunteer a lot in the city as well. Living under 5 miles from work / park / library is insanely important to me. I am a complainypants / deserve some face punches in that I won't want to bike more than 5 miles to work, and I want to live alone (not opposed to a significant other if I fall in love someday, but no roommates).

My rent is $900 per month, so I think buying makes sense as long as I don't care about mobility. I just signed a 1 year lease as I do care about mobility somewhat right now. I am feeling out my job for another year, but if I still like it, I am thinking I should buy a townhome or condo at the end of my lease.

I take what MMM says about if you don't have the discipline to save 20% for a down payment on a home you shouldn't buy at all very seriously. My $3000 savings account is my sleep well at night money and I am not willing to put that towards the down payment, so I figure worst case I need to save around $30k. This is about what I save in a year, but unfortunately about $24k of that goes into tax-advantaged retirement accounts.

So my questions are:

Should I hold off putting money in the 401k (except to get the match) and Roth IRA to save for the down payment?

Should I just rent for a few more years and save the way I have been until I have enough in non-retirement accounts for the down payment?

Should I just keep saving what I am saving and buy with what I have as a down payment and mortgage the rest?
« Last Edit: August 16, 2015, 07:33:08 AM by jmechanical »

MoonShadow

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Re: Tax Advantaged Retirement Accounts vs. House Down Payment Saving
« Reply #1 on: August 14, 2015, 10:31:11 PM »
I think the answer you seek is entirely subjective, and you would be fine with any of the three choices.  That said, if I were still young, single and doing as well as yourself, I would not buy real estate unless the perfect deal came along.  I've had the experience, many times, that work conditions and life goals can shift rather suddenly; and the requirement of delaying life to sell a house, or to sell one long distance, sucks rather hard.  And there is no certainty that you will actually sell it for more than you bought it for; and almost certainly not for more that you have actually paid into it (mortgage, maintaince, taxes, etc.).

I would recommend that you stay in your apartment, unless & until you are truly settled in life, as in married with children.  Even just married doesn't really justify the aggravation of owning a home, in my experience.

MDM

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Re: Tax Advantaged Retirement Accounts vs. House Down Payment Saving
« Reply #2 on: August 14, 2015, 11:32:27 PM »
I think the answer you seek is entirely subjective, and you would be fine with any of the three choices.  That said, if I were still young, single and doing as well as yourself, I would not buy real estate unless the perfect deal came along.  I've had the experience, many times, that work conditions and life goals can shift rather suddenly; and the requirement of delaying life to sell a house, or to sell one long distance, sucks rather hard.  And there is no certainty that you will actually sell it for more than you bought it for; and almost certainly not for more that you have actually paid into it (mortgage, maintaince, taxes, etc.).

I would recommend that you stay in your apartment, unless & until you are truly settled in life, as in married with children.  Even just married doesn't really justify the aggravation of owning a home, in my experience.
+1
Good advice.

Some things about the OP:
  - You are doing great.  Keep up the good work!
  - Unless you are paying ~10% in state and local taxes, that $658 is too high.  If it is too high, change your W-4 to have less withheld and invest the extra cash flow.
  - Consider traditional IRA instead of Roth.  You are in the 25% marginal bracket now (plus whatever in state+local) so the rule of thumb says "do traditional".

mxt0133

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Re: Tax Advantaged Retirement Accounts vs. House Down Payment Saving
« Reply #3 on: August 14, 2015, 11:53:18 PM »
I'd recommend you read these posts and then only if you are still 100% sure you want to buy should you stop investing in taxed advantaged accounts and save for a down payment.

http://www.gocurrycracker.com/renters-for-life/

http://jlcollinsnh.com/2013/05/29/why-your-house-is-a-terrible-investment/

AlwaysLearningToSave

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Re: Tax Advantaged Retirement Accounts vs. House Down Payment Saving
« Reply #4 on: August 15, 2015, 06:36:21 AM »
I agree with other posters. In the spirit of keeping your opions open, i would suggest focusing on your Roth IRA rather than taxable savings accounts. You get the benefit of tax-free growth if you never end up buying but also the flexibility that comes with being able to withdraw principle without penalty. 

Additionally, you can view a portion of your traditional IRA in the same manner.  First-time homeowners can withdraw up to 10,000 from a traditional IRA without paying the early withdrawal penalty.  See this link: http://www.irs.gov/Retirement-Plans/Plan-Participant,-Employee/Retirement-Topics---Tax-on-Early-Distributions   Of course you will have to pay income tax on the distribution.  Your traditional account is already large enough to accommodate this, or you could focus on adding additional contributions to this account rather than your 401(k) (which is probably a good idea from a fee/expense ratio perspective anyway).

Normally i would not advocate that someone consider such withdrawals from retirement accounts for home purchases, but in your situation where you are equivocal on purchasing and benefitting significantly from tax advantaged accounts, i think you should strongly consider viewing your IRAs as your "retirement or maybe down payment accounts." Obviously you wont be able to accumulate a down payment in one year with just Roth contributions and penalty-free IRA withdrawal, but you can feel good about getting good tax advantages while keeping your options open and being ready to buy if and when the time is right.


AlwaysLearningToSave

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Re: Tax Advantaged Retirement Accounts vs. House Down Payment Saving
« Reply #5 on: August 15, 2015, 06:44:20 AM »
One more thought-- if you are viewing your IRAs as potential sources of down payment, you may want to consider a more conservative asset allocation in your IRAs than you would otherwise maintain. If you chiose to do this, you can maintain a more aggressive asset allocation over your entire portfolio by shifting your other accounts to all-stock or nearly all-stock assets. That way your more conservative allocation in your dual purpose IRAs doesn't hurt your total portfolio's potential return.

I'd be interested to hear MDM's thoughts on viewing IRAs as dual purpose retirement/down payment savings vehicles.

MDM

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Re: Tax Advantaged Retirement Accounts vs. House Down Payment Saving
« Reply #6 on: August 15, 2015, 11:09:35 AM »
I'd be interested to hear MDM's thoughts on viewing IRAs as dual purpose retirement/down payment savings vehicles.
Deciding whether one is investing a given dollar for retirement (long term) or a down payment (short term), then placing it accordingly seems best.  It is of course possible that down payment money invested with moderate risk will grow more than money invested conservatively over a few years.  The likelihood the increase will be significant enough to matter, however, seems not high enough vs. the risk that a downturn would also be significant enough to matter.

In the OP's situation (see table below), assuming 5% state tax and a little (~$150/mo) budget trimming, he can fully fund a 401k and a tIRA, invest aggressively, and still have $1,000/mo to put in taxable accounts.  Putting that $12K/yr into an online savings account, in 2 years he will have ~$36K (there is some taxable savings now) to use for a down payment.  $36K for a 20% down payment gets a $180K residence, comfortably within the $120K-$200K range mentioned.

In any case, one should decide whether earlier retirement or earlier transition from renting to owning is the priority. 


CategoryMonthly
Comments
Annual
Salary/Wages$6,132$73,580
Pretax Health Ins.$61$728
FICA base salary/wages$6,071$72,852
Traditional IRA$458At maximum$5,500
401(k) / 403(b) / TSP / etc.$1,500At maximum$18,000
Employer Match$184$2,210
Income subject to IRS tax$4,113$49,352
Federal Total Income$4,113$49,352
Federal tax$4632015 rates, S, stand. ded., 1 exempt.$5,557
State/City tax$163Guess, using 5.00% * Fed. Taxable$1,953
Soc. Sec.$376Assumes 1 earner paying$4,517
Medicare$88$1,056
Total income taxes$1,090$13,083
Income before other expenses  $3,022$36,269
Monthly Expenses:
Rent$900$10,800
Miscellaneous$1,275$15,304
Non-mortgage total$2,175$26,104
Total Expense$2,175$26,104
Total to invest$847$10,165


jmechanical

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Re: Tax Advantaged Retirement Accounts vs. House Down Payment Saving
« Reply #7 on: August 16, 2015, 08:06:04 AM »
  - Unless you are paying ~10% in state and local taxes, that $658 is too high.[/b]  If it is too high, change your W-4 to have less withheld and invest the extra cash flow.
  - Consider traditional IRA instead of Roth. You are in the 25% marginal bracket now (plus whatever in state+local) so the rule of thumb says "do traditional".

I looked up my state income tax, it is 5.75% (I added the break down to the original post). I have 0 exemptions in my tax witholding at work. Ever since I graduated college and started making a large income I have always owed a significant amount after doing my returns. 2015 might be different because I am no longer teaching as a side gig and I think that is the reason I would end up owing money since I also had 0 exemptions but probably needed additional witholding since it didn't account for my day job. My exemptions are 0 because I was always (probably irrationally) infuriated by owing money after I did my taxes. Maybe this is the wake up call I need to cut that out.

I have considered doing traditional before, the main reason I went Roth for the IRA was tax diversification. I don't expect my spending habits to ever really increase significantly, but I remember reading somewhere (I feel like it was Vanguard's site) about tax diversification and some claim about how tax rates used to be really high in the United States decades ago. I was figuring it would be handy to have a tax free source of income to carry me through a few years if something like that ever occurred. It may be an irrational fear, but that was my thinking at the time I set up the deductions. I need to reconsider this fear.

First-time homeowners can withdraw up to 10,000 from a traditional IRA without paying the early withdrawal penalty.  See this link: http://www.irs.gov/Retirement-Plans/Plan-Participant,-Employee/Retirement-Topics---Tax-on-Early-Distributions

Normally i would not advocate that someone consider such withdrawals from retirement accounts for home purchases, but in your situation where you are equivocal on purchasing and benefitting significantly from tax advantaged accounts, i think you should strongly consider viewing your IRAs as your "retirement or maybe down payment accounts."

This is a handy piece of information to have, thank you. I did not know about this and I do feel leary withdrawing that money, but it sounds like a good thing to have in my back pocket.

I'd recommend you read these posts and then only if you are still 100% sure you want to buy should you stop investing in taxed advantaged accounts and save for a down payment.

http://www.gocurrycracker.com/renters-for-life/

http://jlcollinsnh.com/2013/05/29/why-your-house-is-a-terrible-investment/

Wow the jlcollinsnh has a lot of posts about buying housing. Considering I have a long time left on my lease I will need to read more of his posts and think about this. He makes a lot of good points in that post and there are so many negatives to buying. Also what you're saying about being 100% sure, I think I need to be honest with myself, because maybe you're right, even if I am 99% sure, maybe that small amount of doubt means it is not the time and I am not ready.

In the OP's situation (see table below), assuming 5% state tax and a little (~$150/mo) budget trimming, he can fully fund a 401k and a tIRA, invest aggressively, and still have $1,000/mo to put in taxable accounts.  Putting that $12K/yr into an online savings account, in 2 years he will have ~$36K (there is some taxable savings now) to use for a down payment.  $36K for a 20% down payment gets a $180K residence, comfortably within the $120K-$200K range mentioned.

In any case, one should decide whether earlier retirement or earlier transition from renting to owning is the priority. 

Thank you for that table! I didn't realize that Roth contributions and my tax witholdings/exemptions where causing me to pay so much more in income taxes per pay period (although theoretically, I should get the extra taxes I am paying through my 0 exemption status back when I do my returns, it would be better to have that money to invest now then getting it back next year). I maybe need to let it go that I ended up paying some money after doing my returns in the past, especially since this year should be different with out the teaching income.