The Money Mustache Community
Learning, Sharing, and Teaching => Investor Alley => Topic started by: MoneyGoatee on June 22, 2019, 09:41:12 PM
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(1) Is it better to lower tax with traditional IRA contributions and leave yourself with more money to invest now, than to contribute to Roth IRA to lower tax in the future, leaving you with more money in the future instead? I believe it's better to put money to work earlier than later. So is the former a better choice?
(2) When I withdraw from traditional IRA, I have the option to pay tax before the withdrawal or pay tax at the end of the tax year when I file my return. Again, it would seem the longer you leave money in your investment the better. So is it better to pay tax later?
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(1) Is it better to lower tax with traditional IRA contributions and leave yourself with more money to invest now, than to contribute to Roth IRA to lower tax in the future, leaving you with more money in the future instead? I believe it's better to put money to work earlier than later. So is the former a better choice?
It all depends on the marginal tax rate you could save now, vs. the marginal tax rate you would pay at withdrawal. See Traditional versus Roth - Bogleheads (https://www.bogleheads.org/wiki/Traditional_versus_Roth).
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If you actually invest the tax savings, it is almost always better to go with the traditional. There are a few occasions where a Roth is ideal:
1) Taxes increase by the time you retire. How much they would have to increase is dependent on many variables. Also, the likelihood of them increasing probably depends on your income. Taxes are more likely to increase for high earners than for lower and middle class. Unless you plan to withdraw a lot of money during your retirement years, I wouldn't worry too much about this.
2) Expenses in retirement will exceed income during earning years.
3) You want to make things easier for heirs. The taxes involved with a traditional 401k/IRA inheritance can be tricky. That isn't the case with a Roth.
4) You have no income tax to defer. This happens for me. After loading up 401ks and receiving various credits, we don't pay income tax. As such, we fund a Roth IRA.
Also, it's always a good idea to have a mixture of both, as a hedge. If you have too much in traditional 401k/IRA investments, required minimum distributions might eat your nest egg alive when you turn 70.
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There is really is no 100% way to know for sure. It depends on tax rates today vs who knows what they'll be in 15-20 years or when ever you withdraw the funds. It also depends on your income now vs then. There are several variables and the farther into the future you're aiming, the harder it will be to predict.
The two options are not mutually exclusive. You can put some in a Roth and some in a traditional IRA. If you diversify, you can put the higher risk in the Roth. Or not. When you draw money, you can mix between taxable and non-taxable withdrawals.
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The maximum you can contribute to a tIRA and Roth are the same so if you don't need the tax savings of the tIRA to contribute the max amount then I would do the Roth.
If you are in a low tax bracket the Roth is better because the tax break on the tIRA isn't much.
In retirement Roth income does not cause an increase in Medicare premiums or ACA subsidies, plus no RMD