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  • #31


    (that was also supposed to be a smiley face after my comment, not four question marks — new poster…)
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    Honestly, that conversion happens a lot, no idea why but it's not b/c you're a new poster.


    for example, if you pick $5000.00 to invest, and you run numbers on both, then yes – it is certainly advantageous over time that the roth 401k will come out ahead.  however, this is apples to oranges as the true amounts should be a pre-tax amount (ie nearly 8000.00 if one’s effective rate is near 40%) vs 5000.
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    I, otoh, think it is more apples-to-apples than you realize, precisely for the reason I gave. The taxes saved as a result of the $18,500 typically disappear into the budget rather than being saved and invested. This is the practical aspect - as much as it may gall you not to get the deduction up front, how well are you going to manage the additional taxes saved over that period of years? Will you have the fortitude and discipline to invest that money annually so as to have the growth to pay the taxes on the back end? A few will, most won't. You are choosing math and I am choosing human behavior, and that is apples to oranges.


    so – if doctor joe smith has an effective tax rate at 30% in one of his peak earnings years at age 45, contributes 18500.00 and plans to withdraw this money at age 65 where he will have a projected effective tax rate of 25% – how does the roth 401k ever come out on top mathmatically??
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    The problem doesn't shake out until age 70.5, when doctor joe smith is required to take RMDs (and pay tax) that are calculated to force distribution over his expected lifetime. For the physician families we work with who are planning far better than did my generation, these accounts will have have grown to 8 figures, sometimes 9. Rarely does doctor smith's budget require the use of these RMDs, but they must be distributed. And the system is set up so that doctor smith, and then his widow (or widower) will pass at least part of this amassed taxable account on to the next generation. That is when doctor joe will look back and rue the years that he didn't pay more attention to his Roth account, whether or not the math "made sense" in his 30s and 40s.
    Our passion is protecting clients and others from predatory advisors. Fox & Co CPAs, Fox & Co Wealth Mgmt. 270-247-6087

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    • #32
      to speak about a 9 (nine?) figure account is exactly the exception that i was speaking of.  i dont think what to do with a one hundred million dollar retirement account is too pertinent.  anyone else?

      again - im speaking of a physician making high 6-figures looking to spend her retirement in retirement.

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      • #33
        Is it really that unlikely that people would diligently invest the tax savings from the traditional 401(k)?  Unless someone is spending every penny other than what they are putting into their tax-advantaged space, doesn't really seem like a fair comparison.  Even someone who is fairly high-spending, if they are investing the excess, the tax savings simply go into "the excess" and get invested, even if that chunk of money is not separately identified as "the tax savings from doing traditional instead of Roth."

        That being said, I'm struggling very much with traditional vs. Roth these days.  I don't see how current tax rates are sustainable--if there was a way to do a futures contract on tax rates being higher in 30 years, I would.  A roth doesn't quite accomplish the same thing, though, since I'm totally unsure of how long I will work and what opportunities I will have down the road to do traditional-to-roth conversions at attractive rates.  I also agree that doing the conversion at attractive rates is an obvious (and obviously legal) loophole that should be changed (just like the backdoor Roth IRA should be eliminated), so taking risk by relying on that construct.  And the RMD issue is obviously a very real consideration, though I put it in the bucket of "if I have a problem of taxable income being overly high in retirement, that's a problem I can live with, because it means I have a ton of money"--I'm not going to structure my affairs today, while I'm not yet FI, don't have college funding done, etc., around managing the size of my estate.

        Starting next year I'll have access to the profit sharing portion of my firm's 401(k), and that will be a very sizable traditional contribution, so I may finally flip to roth for my individual contributions next year.  That would have me doing $29.5k of Roth (IRAs + my portion of 401(k)), $6.1k of HSA, and $37.5k of traditional (profit sharing 401(k)), so a good balance.  As it stands, I'm doing $18.5k of traditional (401(k)), $6.1k of HSA, and $11k of Roth (IRAs)--so if I flip to Roth for my 401(k) next year, I'll be preserving my tax diversification in my retirement accounts at about the same rate.

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        • #34




          Is it really that unlikely that people would diligently invest the tax savings from the traditional 401(k)?  Unless someone is spending every penny other than what they are putting into their tax-advantaged space, doesn’t really seem like a fair comparison.  Even someone who is fairly high-spending, if they are investing the excess, the tax savings simply go into “the excess” and get invested, even if that chunk of money is not separately identified as “the tax savings from doing traditional instead of Roth.”

          That being said, I’m struggling very much with traditional vs. Roth these days.  I don’t see how current tax rates are sustainable–if there was a way to do a futures contract on tax rates being higher in 30 years, I would.  A roth doesn’t quite accomplish the same thing, though, since I’m totally unsure of how long I will work and what opportunities I will have down the road to do traditional-to-roth conversions at attractive rates.  I also agree that doing the conversion at attractive rates is an obvious (and obviously legal) loophole that should be changed (just like the backdoor Roth IRA should be eliminated), so taking risk by relying on that construct.  And the RMD issue is obviously a very real consideration, though I put it in the bucket of “if I have a problem of taxable income being overly high in retirement, that’s a problem I can live with, because it means I have a ton of money”–I’m not going to structure my affairs today, while I’m not yet FI, don’t have college funding done, etc., around managing the size of my estate.

          Starting next year I’ll have access to the profit sharing portion of my firm’s 401(k), and that will be a very sizable traditional contribution, so I may finally flip to roth for my individual contributions next year.  That would have me doing $29.5k of Roth (IRAs + my portion of 401(k)), $6.1k of HSA, and $37.5k of traditional (profit sharing 401(k)), so a good balance.  As it stands, I’m doing $18.5k of traditional (401(k)), $6.1k of HSA, and $11k of Roth (IRAs)–so if I flip to Roth for my 401(k) next year, I’ll be preserving my tax diversification in my retirement accounts at about the same rate.
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          Here's another way to look at this whole topic.  Instead of worrying about future tax rates (we can't predict those, so don't even try), we can instead use 'bounded rationality' argument.  It goes like this.  If we DO NOT know something, how should we act based on this obvious lack of information?

          The answer is that we diversify. In this case we diversify our future tax liability.  It is done as follows:

          1) Set up buckets, including backdoor Roth, tax-deferred and after-tax (this one is key).  If you are in the highest rackets, you can safely do tax-deferred.  Even if brackets are higher, your actual tax RATE will be lower in retirement, unless you will have tens of millions in various investments that are generating income.  Even then you can structure a lot of your liquid investments to generate tax-free income (municipal bonds).

          2) Why after-tax?  Well, at some point you might be in a lower tax bracket closer to retirement (or just in retirement).  Ideally this is prior to age 70 and 1/2.  You can then start doing massive Roth conversions.  At that point you'll at least have some idea as to what the rates would be in the near future (which could be several decades from now), so you can decide on whether you want to convert part or all of your tax-deferred assets to Roth.  Again, bounded rationality: no data, diversify, so you can convert some of the tax-deferred holdings to Roth and prepay the tax using your AFTER TAX money (to avoid spending the tax-deferred money on that).  You will need a lot of liquid after-tax money to pay the taxes on this conversion.

          What will it buy?  You will prepay taxes on the Roth conversion, and bet that if you live long enough, the massive Roth IRA you would gain is going to more than pay for itself and save you large amount in unnecessary RMD taxes paid.  I'm getting numbers nearing $1M in taxes saved if you live into the 90s for a roughly $3M in tax-deferred assets.  Again, this is using last years' brackets, and who knows whether the actual savings would materialize, but you can position your strategy in such a way as to be oblivious to any changes in tax situation because half of your assets would be Roth and half-tax deferred, so whatever happens, you'll at least be 50% right (which is better than 100% wrong).

          So with this approach you can wait until you are near retirement to make Roth conversions without having to worry about it now.  Another strategy is if you have a Cash Balance plan that you are maxing out, you can (under the cover of high CB contributions) sneak in some Roth into your 401k plan.  Or if you have a very low income year, you can convert some of your 401k plan money to Roth inside your plan. Especially inside your 401k plan that you control, you can make tax-deferred contribution, and then if you change your mind, you can convert that to Roth.  So there are many ways this game can be played.

          Trying to predict the future is pointless, but that does not mean you can't position your strategy to take advantage of whatever happens in the future without taking excessive risk of being wrong.
          Kon Litovsky, Principal, Litovsky Asset Management | [email protected] | 401k and Cash Balance plans for solo and group practices, fixed/flat fee, no AUM fees

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          • #35




            to speak about a 9 (nine?) figure account is exactly the exception that i was speaking of.  i dont think what to do with a one hundred million dollar retirement account is too pertinent.  anyone else?

            again – im speaking of a physician making high 6-figures looking to spend her retirement in retirement.
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            But you picked that out of the example and that wasn't the exception I was talking about, just a higher degree of savings. About 90% are 8 figures. The RMD on a $20M account at age 70.5 is almost $1M. We are projecting beyond that number for many single physician households. Those earning high 6 figures, including dual income physicians, appropriately invested and managed, much higher.
            Our passion is protecting clients and others from predatory advisors. Fox & Co CPAs, Fox & Co Wealth Mgmt. 270-247-6087

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            • #36
              Nestor400,

              You are correct, deciding between Traditional vs Roth 401k is unique to your specific situation.

              That is why there are handy dandy calculators (like this one https://www.bankrate.com/calculators/retirement/401-k-or-roth-ira-calculator.aspx) that exist. If you don’t like this one, there are 10 more if you google “Roth vs Traditional 401k calculator”.

              You asked how does time and compounding affect the argument. There is a “time until retirement” function built into the calculation, meaning that time is a factor (I’m not a mathematician, but after plugging in numbers you can see the concept at work, even with investing the Traditional 401K tax savings). And that time function does not even account for RMDs, which are accounted for based on you predicting your future tax bracket for the calculation (and JF so eloquently provided a terrifying RMD example).

              I hope this provides a little more clarity to the point that I was attempting to illustrate.

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              • #37
                How does the argument for traditional vs. Roth 401(k) contributions change if the investment options for the 401(k) plan have high expense ratios...in the 0.6-0.8% range? Mine is through Principal and I find myself questioning going traditional vs. Roth.

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                • #38




                  How does the argument for traditional vs. Roth 401(k) contributions change if the investment options for the 401(k) plan have high expense ratios…in the 0.6-0.8% range? Mine is through Principal and I find myself questioning going traditional vs. Roth.
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                  It is irrelevant, but jmo. Appropriate portfolio allocations and, especially, behavior carry far more weight.
                  Our passion is protecting clients and others from predatory advisors. Fox & Co CPAs, Fox & Co Wealth Mgmt. 270-247-6087

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                  • #39
                    Surprised no one mentioned the tax law changes and how they sunset (likely with no renewal for the higher brackets if Dems pickup some seats in the midterms). This might be some of the best years for the Roth now argument but I'm still putting my i401k as pretax for now with bdRoths as well. Kon's argument above with no assumptions makes the most sense for my planning.

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                    • #40
                      I love the idea of converting pre-tax 401k's to roth when I am nearing retirement or early on in retirement, but I don't want to use this as my only strategy to increase my roth bucket in retirement - I think it is putting too much faith in Congress not legislating that option away over the next 30 years. Also, at my age (33), I would prefer to just pay the tax man now and let it grow without fear of being taxed again. I imagine I will change to pre-tax contributions in 15 years or so, but at this point I am striving for a larger bucket of roth money for retirement. I agree with Johanna that it is really hard to invest that saved tax money... in my brief experience it just goes into the checking account and is mixed with the rest of the money. I guess I also view the roth 401k decision as a way to force you to save more now

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                      • #41
                        Another consideration is the state where you live now vs. the state where you intend to retire.  If you live in California now and plan to retire to Austin, Tampa, or Vegas, then there's no reason to pay 9.3% to as much as 13.3% in California income tax.  On the other had, if you're living in South Dakota now and plan to retire to the beach in Malibu, you might want to get money into the Roth now.  (You also might want to keep the South Dakota house and just spend six months minus a day in sunny California!)

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                        • #42
                          My thoughts are different on this, write about it here: https://thephysicianphilosopher.com/2017/12/14/pre-tax-versus-roth-403b-401k/

                          I put my 18.5k via Roth and let my employer provide all the pre tax contribution.

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