Author Topic: Invest in 401K or Roth IRA?  (Read 2447 times)

quelinda

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Invest in 401K or Roth IRA?
« on: August 08, 2015, 08:10:13 AM »
DH contributes to a 401K up to the (very small) match through his employer (I'm a SAHM). By January we will have finished paying off debt & will be able to invest more -- about $1000 a month. He is 50 years old, so there will be about 10 to 15 years before he retires (we started late, yadda yadda yadda).

What I'm wondering is -- would it be better to put that $1000 a month in his 401K or in a Roth IRA? I'd been thinking a Roth, because of the after-tax growth, but now I'm wondering if the short time frame would change the equation. However, if we're able to leave the money in the Roth for longer than the 10 to 15 years until retirement, that might help too.

Thoughts, please?

MDM

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Re: Invest in 401K or Roth IRA?
« Reply #1 on: August 08, 2015, 08:45:31 AM »
Depends on some things:
  - What is your current marginal tax rate (state + federal), and what do you expect it to be in retirement?
  - What fees are charged in the 401k?

quelinda

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Re: Invest in 401K or Roth IRA?
« Reply #2 on: August 08, 2015, 09:27:52 AM »
Depends on some things:
  - What is your current marginal tax rate (state + federal), and what do you expect it to be in retirement?
  - What fees are charged in the 401k?

I should have realized it wasn't a cut and dry answer! We're in the 25% federal tax bracket & 6.27% state tax bracket. I don't know what it will be in retirement, honestly. (I'm hoping we'll have $500,000 to $750,000 saved plus a paid-for house at that point.)

I'm not sure about fees. Guess I'd better look into that -- though a cursory glace at the website doesn't reveal any fees for the plan itself. The 401K is divided into two different Fidelity Spartan Index Funds, so I know that the fees for the funds themselves are extremely low.

MDM

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Re: Invest in 401K or Roth IRA?
« Reply #3 on: August 08, 2015, 10:40:51 AM »
I'm not sure about fees. Guess I'd better look into that -- though a cursory glace at the website doesn't reveal any fees for the plan itself. The 401K is divided into two different Fidelity Spartan Index Funds, so I know that the fees for the funds themselves are extremely low.
That's probably good enough - any overall fee is likely to be low, maybe ~$40/yr if any.

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I should have realized it wasn't a cut and dry answer! We're in the 25% federal tax bracket & 6.27% state tax bracket. I don't know what it will be in retirement, honestly. (I'm hoping we'll have $500,000 to $750,000 saved plus a paid-for house at that point.)
Your choice about traditional (pre-tax) vs. Roth (post-tax) contributions now is as good (or random) as your ideas about marginal rates now vs. in retirement.

Estimating marginal rates for withdrawals in retirement is not an exact science, but neither is it a hopeless task.  You could make an estimate, then post the process by which you did it for a few second opinions here....


Joshua

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Re: Invest in 401K or Roth IRA?
« Reply #4 on: August 09, 2015, 06:57:25 PM »
So here are some numbers to ponder.

You are currently in the 25% bracket. Meaning that contributing to a roth will require you to pay 31.27% of the dollars you put into it vs 0% in the 401k.

With your top end guess on retirement savings (750,000) you will be looking at about $30,000 per year of income from the savings. The top end of the 15% tax bracket for married couples is $74,900. We also need to take into account your personal and standard deductions worth $20,600. Meaning that you can have $95,500 in retirement income and still fall in the 15% bracket. The maximum social security income is $31,956 this year. Meaning that at most your income would clock in at  $77,934 per year ($30k savings + Max SS + spouse SS benefit). This leaves $17,566 of room for other income sources you may have and you would still wind up in the 15% bracket. And this is assuming you qualify for the max social security benefit.

Unless there is a hefty pension or other stream of income you haven't mentioned, I think the 401K is the obvious choice.

MDM

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Re: Invest in 401K or Roth IRA?
« Reply #5 on: August 09, 2015, 07:13:35 PM »
You are currently in the 25% bracket.

With your top end guess on retirement savings (750,000) ... at most your income would clock in at  $77,934 per year ($30k savings + Max SS + spouse SS benefit). This leaves $17,566 of room for other income sources you may have and you would still wind up in the 15% bracket. And this is assuming you qualify for the max social security benefit.

Unless there is a hefty pension or other stream of income you haven't mentioned, I think the 401K is the obvious choice.

Also worth noting (from http://www.bogleheads.org/wiki/Taxation_of_Social_Security_benefits):
"...tax brackets and Social Security taxation interact, creating a 27.75% marginal tax rate for most taxpayers in the 15% tax bracket, and a 46.25% marginal tax rate for some single taxpayers but only married taxpayers with very high Social Security benefits at the bottom of the 25% bracket."

So maybe, maybe not - really does depend on the individual situation.  In any case, the likely return on the hours it might take to make an informed guess (as opposed to a pure guess) seems high enough for folks to make the effort.