Author Topic: Does it make sense to choose regular 401k over Roth 401K at 15% tax bracket?  (Read 2557 times)

TheBeeKeeper

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from what I understand 401K is tax deferred , so we will end up paying tax on both earnings and principal.
After the tax deductions (mortgage interest, child care , etc.)  we are at the 15% tax bracket. From what I read + looking at calculators it doesn't seem to make sense to contribute if I have the option for Roth 401K from my employer, even if I invest the tax savings of the regular 401K.
Am I missing something?

MDM

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from what I understand 401K is tax deferred , so we will end up paying tax on both earnings and principal.
After the tax deductions (mortgage interest, child care , etc.)  we are at the 15% tax bracket. From what I read + looking at calculators it doesn't seem to make sense to contribute if I have the option for Roth 401K from my employer, even if I invest the tax savings of the regular 401K.
Am I missing something?
Possibly a larger Saver's Credit now.

What do you expect your overall (not marginal) tax rate on 401k withdrawals to be after retirement?


TheBeeKeeper

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how do I figure out the overall rate?
let's say we would be withdrawing  30K$ per year, and also need to pay the NYS state tax.


MDM

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how do I figure out the overall rate?
let's say we would be withdrawing  30K$ per year, and also need to pay the NYS state tax.
State taxes are, so to speak, all over the map so I'll leave the NY tax to you.

For federal, assuming standard deduction, $30K gross income will cost you $940 tax for an overall rate of 3.1%.  See the Tax Rates tab in the case study spreadsheet.  If you have other income you have to look at the amount you pay for the $30K "on top of" the other income.

E.g., if you have $10K other income for a total of $40K the tax is $1,987.5.  As the tax on $10K is $0, the overall rate for the $30K is $1,987.5/$30K = 6.625%.

Doulos

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New York is among the highest state taxes.

I would say, if you are in a super low tax situation now, you should go Roth.
If you are in say, Texas now, then you would have Zero state tax.  So 15% and 0% state = awesome.
If you then plan to live in New York later, and have plenty of income from your gigantic investments, then Roth is looking good.
But if you are in New York right now, but will move somewhere lower later, like retiring in Texas, that would not be the case.

How old are you now? 
This matters because if you are very young, then post FIRE, your stash has a very long time to grow.  Which increases your chances of hitting 70 1/2 with a boat load of money (when you need to start taking mandatory withdraws; "RMD").

MDM

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I would say, if you are in a super low tax situation now, you should go Roth.
Only if one's marginal tax rate later will be the same or higher, and there are no advantages (e.g., Saver's Credit) to be had now from the traditional, correct?

Quote
How old are you now? 
This matters because if you are very young, then post FIRE, your stash has a very long time to grow.  Which increases your chances of hitting 70 1/2 with a boat load of money (when you need to start taking mandatory withdraws; "RMD").
Good point, particularly if one neglects to do traditional to Roth conversions along the way.  But if one does those conversions at tax rates lower than the marginal rate saved in the first place....
« Last Edit: April 28, 2015, 03:09:02 AM by MDM »

TheBeeKeeper

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we are both early 40's and don't have much in a 401K (about 100K together) . We have other investments and rental properties, and would like to increase the amount we put in 401K. I have the option to choose Roth or standard 401K, spouse's employer offers only regular 401K


Indexer

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When you are contributing to a Roth you are locking in today's tax rate.  That is the easy way of looking at it.

Would you like to lock in a 15% tax rate forever?  I would, but that is because I'm in the 25% bracket.  If you think you will be in a lower bracket in retirement then you might want to defer the money instead of paying 15% now.  If you think you will be in a higher bracket in the future you probably want to lock in that 15% now.

MDM

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we are both early 40's and don't have much in a 401K (about 100K together) . We have other investments and rental properties, and would like to increase the amount we put in 401K. I have the option to choose Roth or standard 401K, spouse's employer offers only regular 401K
Based on today's tax rates (yes, they may change in the future but we have to start with something)
  a) what would your tax savings be as a percent (call it "a") of the standard 401k contribution?
  b) what would your tax payments be as a percent (call it "b") of the annual withdrawal needed from your 401k to support your retirement spending?  Assume your other income "comes first" and the 401k withdrawals must pay the tax incurred above that - see this post for an example.  Then feel free to adjust this percentage (call the adjusted value "b*" based on what your crystal ball tells you about future tax rates

Assuming the two percentages differ significantly, if a>b* then do a traditional 401k.  If a<b*, do a Roth.  If a~b*, see http://www.bogleheads.org/forum/viewtopic.php?f=10&t=140758 for gorier details.