How should I optimize my tax benefits with my retirement?
I'm going to have a fair bit of taxable income (20k?) over the 146K married filing jointly 25% / 28% tax bracket this 2013 year. I've been maxing out a Roth 401K and Roth IRA each year, but now I'm wondering if it would be wise to make it so I keep my taxable income within the 25% range and avoid paying some of it in the 28% range. I know it all depends on what my tax bracket will be when I retire so it's all somewhat a swag. I'm 41 years old and plan to retire around 59. At what age should I consider starting leverage more pre-tax 401k and IRA over Roth or does it ever make sense if I plan on being in a higher tax bracket when I retire? Assuming I plan to pay myself around 80% of what my salary is at retirement which will lower my tax bracket some, does it make sense for the last 5-10 years to shift from contributing to post-tax over to more pre-tax retirement saving options?
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Someone who is earning $146K+ would generally contribute more to a traditional 401K not a ROTH 401K. Do you think you will be receiving $146K per year in retirement, probably not. Unless your expenses were exceptionally high for a retiree, you would keep it in the plans instead of withdraw more than you need (after age 70, you have to withdraw more due to life expectancy).- Okay, congratulations on you and your wife being high income. Kudos on your expectation that your income will stay at that level for the forseeable future.
Also contratulations on your expectation that you can retire at 59 and still have 80% of your income to spend.
And, wow, you expect to be in a higher tax bracket? Do you have that much to pay in capital gains, etc? Or do you just expect the tax rates to climb form the rates today?
When you say you have been maxing out your 401K each year, you are putting in $17500 for you in your 401K and if your wife works, she's putting 17500 in hers? Adding in the $5500 for the Roth IRAs, that's $45000 a year. (Unless your company is top heavy and you hit the HCE [highly compensated employee] rules and can't put in the full $17500.)
Please don't think *all* of the above is sarcasm. The problem is, you just don't know. Nobody knows, all they can do is guess and my crystal ball has bubbles in it.
I'm further along than you, but I also hope to retire very early and have an income that is pretty much equal to what I have now. However, from 41 to my age now, I have encountered the following:
1. Layoff from a high paying job. I was unable to find a job in the same field, so after a year of unemployment, I took a job that paid half as much.
2. Family issues. I switched to part time to have more time to take care of ailing parents, then continued part time to have time to work on an estate, and finally realized that my job stress was such that I wanted to stay part time.
3. When I had the high paying job, I aimed to put 25% of my pay into the regular 401K. That was at a 25%-28% tax rate. I also put whatever I was allowed to into a traditional IRA. I did NOT use the Roth variations because they didn't exist when I started saving. I *also* put even more money into plain old vanilla savings. My regular savings are roughly 2/3rds of my assets and my retirement accounts are the other 1/3rd. (I don't count the house as anything other than a place to live.)
When the Roths came along, I toyed with switching to all Roths. For a young person starting out, I'd push 50/50 for the first 10 years. At lower incomes, the savings from a deduction aren't that much, but if you screw up and need the money, the Roth contributions can be taken out penalty free. If using a 401K, I'd make the 401K pre-tax and the other half a Roth IRA.
4. When I was laid off and had no income for a year, I rolled a substantial amount of money into a Roth IRA. I used up my 0% tax bracket (personal exemptions and itemized deductions), the 10% bracket and the 15% bracket. Since I'd put the money in at 28%, I felt I'd at least saved on the taxes. This quasi-income-averaging only works if you have money to roll over and other savings to you don't spend it. (Once you hit 59.5 years of age, the penalty goes away.)
5. My plan from when I retire (soon) to age 62/66/70 (when I go to collect SSA benefits) is to systematically roll money from the IRA/401K to Roth accounts such that I use up the 15% tax bracket. Again, possible because I have money in these accounts and other money to live on.
6. I've done the math. The 15% tax bracket is the best I can do. I have simply organized my life to spread my income out so I don't pay 25%. (I currently like Muni bonds--as the income is tax exempt-- but I don't know if I'd suggest that to some who is young. If that income was not tax exempt, I'd be in the 25%-28% bracket.)
7. Several models have been done indicating that if your tax bracket is the same in retirement as when you put the money into the traditional IRAs, you still win due to compounding. I'm not entirely sure this is true since it's ordinary income, not capital gain. - I would let the Roth continue to grow for the next years and switch over to pre-tax contributions to take advantage of lower tax bracket now, chances are your income is going to continue to increase putting more of it into the 28% bracket. Also when you are 65 you get to claim an extra allowance on your tax return which will lower your taxes as well.
- Wish I had more time to answer - - but you are still better off in the ROTH accounts.
The main reason - - - ALL of the earnings are withdrawn tax free. Double your money - tax free. Quadruple it - tax free. It's ALL tax free.
The whole "depends on retirement tax bracket" argument is dwarfed in almost every case when you have 10 years or more to grow your investment. Your retirement money is going to be invested for a long time - - more than 40 years if you live to 81. All that growth is tax free from a ROTH.
You are suggesting saving 25%-28% now on your contribution. But you will pay close to that rate or more on ALL your earnings if you go the traditional 401K/IRA route. ROTHs almost ALWAYS win.