Where to put money

[Cottonwood28]

My husband makes $45,000 and I stay home with our son. We recently increased his 401k to 27%. Our plan was to try to keep increasing until we can max at 38%. I was running the numbers though and 27% is enough to have zero federal tax liability.  Is it still worth it to invest more in the 401k or should we put additional money in a taxable account? Our son is a baby so I plan on being gone for a few years at least but unless my husbands income increases dramatically I will eventually work again, increasing our tax liability. We max both Roth's. So what are your thoughts on 401k v taxable once federal tax liability is zero?

[matchewed]

My thought is that it depends on your plan. What are your goals and how does saving in your various investment vehicles apply to those goals? Knowing more about that will help give better advice.

[fiveoclockshadow]

Remember that a 401k is not just good for being a good pre-tax contribution - money also grows tax free.  That can be a very big deal over time.

The remaining caveat would be making sure your emergency account is sufficient at the moment.  It is of course harder to get money out of a 401k than a taxable investment account.

[Cottonwood28]

We have a six month emergency fund in a standard money market savings account. We recently found this site and are trying to get us on the right path to building wealth. We are a lower income in a higher cost area but feel like we are making the best of it. We saved the emergency fund, car fund ($6000), and enough to fully fund the Roths prior to my son being born when I still had an income.

[Cottonwood28]

My thought is that it depends on your plan. What are your goals and how does saving in your various investment vehicles apply to those goals? Knowing more about that will help give better advice.

Honestly, right now it's to get us saving. We are undecided about if/when we will have more children as well as when I will return to the work force, part or full time. So besides trying to get our savings rate up, our plans are murky at best. We would like to run towards FI but understand at current levels it will be a marathon not a sprint.

Currently we have:
$11,500 401k
$50,000 Roths
$7,000 roll over IRA
$10,000 taxable
$36,000 cash (planning on investing surplus)

[fiveoclockshadow]

I'd say you are looking good with the right attitude about this (marathon).

There are a lot of different ways to do things, but I'm going to lean towards more 401k contribution vs. going taxable.  For the long haul costs matter -  a lot - so the advantages of tax-free growth even if you didn't get a tax deduction for the contribution are very worthwhile.

Assumption being there are decent options in your 401k plan (index funds with low expense ratios).  If you have a really poor 401k plan given your tax bracket you might consider taxable as you are near to the range of 0% capital gains taxes.  But really you are right on the edge of that and likely your income is going to increase over time.  So the 401k contribution is likely your best option.

As far as flexibility goes for having emergency access to funds you are in a good position already.  You can pull Roth contributions out at anytime with no penalty (you just can't pull out the earnings) so you have a healthy super-emergency fund there.  And you can take loans from a 401k.  Neither of these are things you'd ever want to do unless things were exceptionally bad - but it should give some peace of mind that taking advantage of tax free growth in a retirement account in no way means you'll never see the money again until you are old.

[matchewed]

The traditional generic advice is to contribute to 401k/IRA to employer match, max Roth, finish maxing 401k/IRA, and then hit taxable.

[Marmot]

There are a lot of different ways to do things, but I'm going to lean towards more 401k contribution vs. going taxable.  For the long haul costs matter -  a lot - so the advantages of tax-free growth even if you didn't get a tax deduction for the contribution are very worthwhile.

If you are in the 10% or 15% tax bracket, then you do not have to pay long term capital gains tax. In 2013, the top of the 15% tax bracket for married joint filers is $72,500. With zero federal tax liability and, at least in the medium term, little benefit to the tax efficiency of a 401k, I would recommend that they have they invest the money in a taxable account. The cost of locking their money up in a 401k, is not worth the benefits in the current situation in my opinion.

Cottonwood, congratulations on your families financial position. You are both doing an excellent job of being financially responsible. If you do decide to go the 401k/IRA route, if it is possible (not sure about rules on this), I would suggest looking into opening up an individual traditional IRA account as it would likely give you a lot more flexibility in what you can choose to invest in relative to a 401k plan through your husbands employer (still take advantage of entire 401k employer match).

[fiveoclockshadow]

@SM - Good point, for some reason (probably tired) I was thinking of the single tax bracket for 0% capital gains which they are close to - but of course they are married!  Reality is that at least for now and the immediate future they seem safely in the 15% income/0% capital gains bracket.  Good catch.  So taxable not a bad idea at all *assuming* they invest in something appropriate (i.e. all long term capital gains and qualified dividends - so something like a whole market index and certainly not bonds or a managed growth fund).

The only long term trade off here is if they at some point later do get significantly more income such that they are always maxing all IRA and 401k contributions they will have "missed" the opportunity to get this money tax sheltered.  Of course at that point they could just move these funds to a tax optimized index fund and be doing pretty good.

[Cottonwood28]

Those are all really good points. Taxable money is in VTSAX, which I thought is a good index for taxable and keeps our allocation where I want it. Husband's 401k is a target index fund with .2% expense ratio, which is fine considering the tax savings. So it really comes down to if we want to utilize all room in tax advantaged 401k since contributions are limited or 'stache in taxable while the playing field is level, so to speak. Now I really need to put some thought into a 5 year plan outside of "save as much as possible". I really appreciate the help as strategic investing is new for us.

[fiveoclockshadow]

VTSAX is a good thing for a taxable account, and a 0.2% target date in a 401k is excellent as well.

Sounds like you are on top of things!