Once your marginal rate in retirement reaches your marginal rate when contributing, traditional ceases to be better. They may only be equivalent, but at that point traditional is not better.
You should compare the average rate the withdrawals are taxed at vs the average rate during your contributing years.
This is not necessarily your marginal rate in retirement, especially if you do Roth conversions.
It might be helpful to include some "for example"s here, otherwise we could be bringing different assumptions to this discussion - and when that happens, it's highly unlikely that consensus will emerge.
Main Assumption: beltim's "...the answer to the question, 'What is the best retirement account for me to save money in?' is: 'The combination that, in retirement, gives you the most after-tax money.'" is the correct measurement to use.
Anyone have a different definition?
The attached spreadsheet is intended to illustrate the marginal vs. overall point.
As attached, a couple contributes a fixed amount for 11 years then withdraws over 5 years, earning 5% return at all times. Note: one could make the withdrawal period longer to favor traditional, or one could also assume other income to favor Roth. The exercise here is not intended to evaluate trad vs. Roth
per se, but rather to investigate what tax boundaries cause the evaluation answer to change.
Under these conditions, the best result (greatest amount of after tax cash) for the traditional vs. Roth comes when contributing ~$13,743 each year. Traditional provides $18,552.05 more than Roth.
This contribution amount is the most the couple can make
and remain in the 10% marginal bracket for at least one withdrawal year. When contributions go to $13,744/yr all withdrawals have some amount of 15% tax and the traditional minus Roth drops to $18,552.01. The more contributions, the worse for the T vs. R comparison. It appears that crossing this marginal rate boundary leads to a change in the slope of the response function.
If looking only at tax paid, one does pay more tax using Roth, up to a contribution of ~$25,654/yr. The greatest excess tax paid via Roth comes at $11306.72/yr, the highest contribution amount that keeps all withdrawals in the 10% marginal bracket. We hit equal amounts of tax paid at ~$25,654/yr - but tax paid, while an interesting sidelight, is less important compared with money available for spending.
If (e.g., by long withdrawals, no side income, etc.)
- one can keep the retirement
marginal rate below the contributing marginal rate,
- then traditional is better.
If (e.g., by having other income, trying to withdraw too fast, etc.)
- one has a retirement
marginal rate above the contributing marginal rate,
- then Roth would have been better.
If marginal rates are the same, then it doesn't matter (aside from the "maximum contributions" scenario covered elsewhere).
I wish it were as simple as marginal (same as average if one stays in that bracket) during contribution vs. overall in retirement, but it seems that just isn't the case. Does anyone have an example that points to a different conclusion?