Bernstein vs. WCI

[sthealth_wealth]

In "If You Can: How Millennials Can Get Rich Slowly," Berstein writes:

The optimum strategy for most young people is thus to first max out their 401(k) match, then contribute the maximum to a Roth IRA ..., then save in a taxable account on top of that.

By "max out their 401(k) match" does he mean to contribute only to qualify for the match then put the rest in a taxable, or to contribute the max then put the rest in a taxable (as is recommended here on WCI)?

If it is the latter and Berstein and WCI are in agreement, it's still an interesting thought. If someone has a strong risk tolerance, how beneficial is it to only qualify for the match, then put the rest in a taxable account with a basic, low-fee 33/33/33 allocation for 40+ years? Yes we'll encounter capital gains tax but we also have a high potential for growth that could outweigh it in the long run.

Also apologize for the click-baity title, but I wanted to make it interesting...

[Donnie]

I don't know what Bernstein means, but for high income professionals like most MDs this isn't an issue because you can do both.  You can max out your tax advantaged accounts (which you absolutely should) and still have savings dollars left over to contribute to taxable as long as you are living a reasonable lifestyle and accumulating wealth is a goal.

[Hatton]

I think Bernstein meant to max out 401k space (whatever tax-deferred space you have) then fill up the taxable.  The only argument for not filling up the tax deferred space would be high fees or aggressively paying down loans.

[sthealth_wealth]

Hi @Donnie, I understand that, I'm just curious about how much of an advantage (if any) there is to maximize taxable accounts in lieu of tax advantaged space after match.

[Donnie]

sthealth_wealth wrote:

Hi @donnie, I understand that, I’m just curious about how much of an advantage (if any) there is to maximize taxable accounts in lieu of tax advanced space after match.

Click to expand...

I think there could be an argument (I haven't run the numbers) for folks in lower tax brackets to fill up taxable after the match because (i) the tax benefit isn't as great and (ii) they have a lesser ability to withstand financial hardships.  Folks with lower incomes will likely need to tap into savings beyond the emergency fund more often than a high income professional saving $100k+ a year.  By having taxable as a "super" emergency fund, they may be able to hold a smaller balance in cash emergency account than they otherwise would if they want to stay aggressive with their investments.  Emergency fund / cash drag is much more detrimental to low income earners.

[ajm184]

Taxable as a 'retirement' asset for lower income/tax bracket people requires alot of discipline imo.  The ability to contribute, the associated asset allocation (Long Term), the focus on simplicity and cost, throw in trying to be tax efficient, not tapping it for a vacation, and being in a profession where income generation is not impeded for a significant stretch of time.

What I observe in the area I live, is alot of 'financial advisors' advocating to save only up to the match, and 'investing' taxable in annuity type products.  They sell the 'fear' of runaway 'future' tax rates to restrain tax deferred contributions and improve the clients perceived income to sell/utilize annuity products.

I would rather take my chances on a future unknown tax rates versus that 'financial advisors' selling an annuity.

[Pharmvest]

I had always thought that Dr. Bernstein meant to at least get your match (but fill it up if you can).  That I You Can book is targeted at young people who presumably don't make enough to make max'ing all tax-advantaged space a no-brainer.

 

I've recently come to the thought that if you don't make enough to max out your 401k, Roth, and HSA each year, then it probably makes the most sense to get the employer match on your 401k, then focus on max'ing out your HSA, then going back to fill the 401k or contribute to the Roth - depending on your situation and tax-timing concerns.

 

I'm just infatuated if the triple-tax advantages of the HSA.  Obviously, assuming your income doesn't allow the $27,450 needed to max all three.

[The White Coat Investor]

I'm confident Bill would not advocate investing in taxable when you could invest in a tax-protected account.

[EJ at Dads Dollars and Debts]

Plus there are asset protection benefits from retirement accounts...you get sued and they can take your taxable accounts, but not your retirement ones!

[Complete_newbie]

While theoretically true I've never heard of a doc losing taxable account to litigation. More of a marketing tactic to me.

Still why would you not invest in tax protected account before taxable? Doesn't make sense.

[ReFinDoc]

Obama wanted to annuitize IRA's, that is what could go wrong. Hillary wanted to institute a wealth tax. Hyperinflation could happen. Artificial intelligence or robotics could take your job.

You cannot protect yourself from these events and Bernstein talks about that in his other books. All I know is I want compounding interest on my side of the equation, as soon as possible.

[litovskyassetmanagement]

sthealth_wealth wrote:

In “If You Can: How Millennials Can Get Rich Slowly,” Berstein writes:

The optimum strategy for most young people is thus to first max out their 401(k) match, then contribute the maximum to a Roth IRA …, then save in a taxable account on top of that.

By “max out their 401(k) match” does he mean to contribute only to qualify for the match then put the rest in a taxable, or to contribute the max then put the rest in a taxable (as is recommended here on WCI)?

If it is the latter and Berstein and WCI are in agreement, it’s still an interesting thought. If someone has a strong risk tolerance, how beneficial is it to only qualify for the match, then put the rest in a taxable account with a basic, low-fee 33/33/33 allocation for 40+ years? Yes we’ll encounter capital gains tax but we also have a high potential for growth that could outweigh it in the long run.

Also apologize for the click-baity title, but I wanted to make it interesting…

Click to expand...

While you should have a taxable account, I would max out tax-deferred and backdoor Roth first.  If you are in the highest tax brackets, the math works out in favor of tax-deferred.  You have to pay significant taxes, and the money to pay these taxes has to come from your cash flow.  This is a huge opportunity cost, and for that reason, tax-deferred always comes first.

If you are stuck with a high cost 401k plan at your employer, you might want to agitate to make changes to their plan, and if you are a partner, you should definitely work to make changes to the plan so that your ability to save in a tax-deferred space is not crippled by high fees and bad investment choices.

As others said, Berinstein's ideas work for non-highly compensated workers who would never make much money over their lifetimes. If you end up with millions, your investment strategy has to be different.  So a risk-managed portfolio with a steady allocation is a good starting point, but at some point once you reach your target number (say $3M) you might want to start de-risking by buying more bonds in a taxable account.

The big idea is that once you retire and end up in a lower tax bracket that you can do strategic Roth conversions of your tax-deferred money, and pay the taxes using after-tax money.  This can potentially save you hundreds of thousands in RMD taxes down the line and will result in a large Roth account you can tap later (or pass it on to the kids who can stretch it over their lifetimes). After-tax money will also be used to build an income-producing portfolio so that you don't have to dip into your other buckets. So I would argue that your after-tax account has to be just as big as your tax-deferred account, and this will happen naturally since your tax-deferred space is significantly limited unless you are a partner in a practice and can convince the practice to include a Cash Balance plan in addition to a 401k plan, even then you should build up your after-tax assets.

So it appears to me that Bernstein is not wrong, just that you can do everything he says and then some and be better off as a result.

[wideopenspaces]

Kon Litovsky wrote:

sthealth_wealth wrote:

In “If You Can: How Millennials Can Get Rich Slowly,” Berstein writes:

The optimum strategy for most young people is thus to first max out their 401(k) match, then contribute the maximum to a Roth IRA …, then save in a taxable account on top of that.

By “max out their 401(k) match” does he mean to contribute only to qualify for the match then put the rest in a taxable, or to contribute the max then put the rest in a taxable (as is recommended here on WCI)?

If it is the latter and Berstein and WCI are in agreement, it’s still an interesting thought. If someone has a strong risk tolerance, how beneficial is it to only qualify for the match, then put the rest in a taxable account with a basic, low-fee 33/33/33 allocation for 40+ years? Yes we’ll encounter capital gains tax but we also have a high potential for growth that could outweigh it in the long run.

Also apologize for the click-baity title, but I wanted to make it interesting…

Click to expand…

While you should have a taxable account, I would max out tax-deferred and backdoor Roth first.  If you are in the highest tax brackets, the math works out in favor of tax-deferred.  You have to pay significant taxes, and the money to pay these taxes has to come from your cash flow.  This is a huge opportunity cost, and for that reason, tax-deferred always comes first.

If you are stuck with a high cost 401k plan at your employer, you might want to agitate to make changes to their plan, and if you are a partner, you should definitely work to make changes to the plan so that your ability to save in a tax-deferred space is not crippled by high fees and bad investment choices.

As others said, Berinstein’s ideas work for non-highly compensated workers who would never make much money over their lifetimes. If you end up with millions, your investment strategy has to be different.  So a risk-managed portfolio with a steady allocation is a good starting point, but at some point once you reach your target number (say $3M) you might want to start de-risking by buying more bonds in a taxable account.

The big idea is that once you retire and end up in a lower tax bracket that you can do strategic Roth conversions of your tax-deferred money, and pay the taxes using after-tax money.  This can potentially save you hundreds of thousands in RMD taxes down the line and will result in a large Roth account you can tap later (or pass it on to the kids who can stretch it over their lifetimes). After-tax money will also be used to build an income-producing portfolio so that you don’t have to dip into your other buckets. So I would argue that your after-tax account has to be just as big as your tax-deferred account, and this will happen naturally since your tax-deferred space is significantly limited unless you are a partner in a practice and can convince the practice to include a Cash Balance plan in addition to a 401k plan, even then you should build up your after-tax assets.

So it appears to me that Bernstein is not wrong, just that you can do everything he says and then some and be better off as a result.

Click to expand...

So are you saying that if you have a lot of tax deferred space you should not necessarily fill it and put money in a taxable or backdoor Roth instead? For instance, if we filled all of our tax deferred space we would be putting about 37 percent of gross income into our retirement account. Quite honestly, we don't need to put that much away so we don't actually even fill all of that each year, let alone doing a backdoor Roth or having a taxable account. Are you saying we should be putting even less in to tax deferred and put some into a backdoor Roth or taxable account each year? Or just that as we get closer to retirement we should be doing Roth conversions?

[Hank]

Put as much as you can into qualified funds. If you have more money left over put it into taxable accounts. (Or pay down your mortgage with some of the extra money.)

Use the time between retirement and 70 1/2 when you have a lower income to do a series of Roth conversions from tax deferred to tax free. Ideally you have taxable money to pay the taxes on the Roth conversions. However, if you saved 37% of your income every year over a career, you probably will be fine even if you have to use some of your traditional retirement funds to pay for the Roth conversion.

[litovskyassetmanagement]

wideopenspaces wrote:

Kon Litovsky wrote:

sthealth_wealth wrote:

In “If You Can: How Millennials Can Get Rich Slowly,” Berstein writes:

The optimum strategy for most young people is thus to first max out their 401(k) match, then contribute the maximum to a Roth IRA …, then save in a taxable account on top of that.

By “max out their 401(k) match” does he mean to contribute only to qualify for the match then put the rest in a taxable, or to contribute the max then put the rest in a taxable (as is recommended here on WCI)?

If it is the latter and Berstein and WCI are in agreement, it’s still an interesting thought. If someone has a strong risk tolerance, how beneficial is it to only qualify for the match, then put the rest in a taxable account with a basic, low-fee 33/33/33 allocation for 40+ years? Yes we’ll encounter capital gains tax but we also have a high potential for growth that could outweigh it in the long run.

Also apologize for the click-baity title, but I wanted to make it interesting…

Click to expand…

While you should have a taxable account, I would max out tax-deferred and backdoor Roth first.  If you are in the highest tax brackets, the math works out in favor of tax-deferred.  You have to pay significant taxes, and the money to pay these taxes has to come from your cash flow.  This is a huge opportunity cost, and for that reason, tax-deferred always comes first.

If you are stuck with a high cost 401k plan at your employer, you might want to agitate to make changes to their plan, and if you are a partner, you should definitely work to make changes to the plan so that your ability to save in a tax-deferred space is not crippled by high fees and bad investment choices.

As others said, Berinstein’s ideas work for non-highly compensated workers who would never make much money over their lifetimes. If you end up with millions, your investment strategy has to be different.  So a risk-managed portfolio with a steady allocation is a good starting point, but at some point once you reach your target number (say $3M) you might want to start de-risking by buying more bonds in a taxable account.

The big idea is that once you retire and end up in a lower tax bracket that you can do strategic Roth conversions of your tax-deferred money, and pay the taxes using after-tax money.  This can potentially save you hundreds of thousands in RMD taxes down the line and will result in a large Roth account you can tap later (or pass it on to the kids who can stretch it over their lifetimes). After-tax money will also be used to build an income-producing portfolio so that you don’t have to dip into your other buckets. So I would argue that your after-tax account has to be just as big as your tax-deferred account, and this will happen naturally since your tax-deferred space is significantly limited unless you are a partner in a practice and can convince the practice to include a Cash Balance plan in addition to a 401k plan, even then you should build up your after-tax assets.

So it appears to me that Bernstein is not wrong, just that you can do everything he says and then some and be better off as a result.

Click to expand…

So are you saying that if you have a lot of tax deferred space you should not necessarily fill it and put money in a taxable or backdoor Roth instead? For instance, if we filled all of our tax deferred space we would be putting about 37 percent of gross income into our retirement account. Quite honestly, we don’t need to put that much away so we don’t actually even fill all of that each year, let alone doing a backdoor Roth or having a taxable account. Are you saying we should be putting even less in to tax deferred and put some into a backdoor Roth or taxable account each year? Or just that as we get closer to retirement we should be doing Roth conversions?

Click to expand...

If you are contributing 37% into tax deferred, this tells me you are not in the highest brackets.  Those in the lower brackets can actually do Roth 401k.  I think it comes down to what buckets you have available and the amount you can contribute.  I would still try to do as much Roth/tax-deferred as possible, and leave the rest for after-tax.  Over time as your income grows, your tax-deferred space will be quite limited, so more money will go to after-tax.  It is not a static situation, so now you might be doing one thing, and later on you will shift your contributions around as your income grows.  You should have some after-tax, starting with emergency money first.  I would still do the 'overflow' strategy where you max out your tax-deferred and Roth space first before doing after-tax.