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With 5 sm. children which, Would be to my advantage to invest in roth or before tax 401K? 20yrs til I retire? |
They are a huge tax write off now. So, does it make sense to put as much in Roth 401k or do I need to put my money in before tax 401k? Difficult question. Requires tax/after-tax analysis of 20 years before retirement plus after retirement years. It would be worthwhile to see a CPA and pay a few hundred dollars for a complete tax analysis of your situation. My overly simplistic analysis, which excludes many other factors of computing taxable income, reveals a slight monetary benefit from going with the Roth 401(k). Thus, assuming 20 years to retirement and 20 years after, you might consider 1/2 Roth 401(k) and 1/2 Traditional 401(k) to hedge against potential tax law changes over the next 40 years. My overly simplistic analysis follows: Before retirement you earn $80,000/year, get a $20,000 deduction for the 5 kids and contribute $10,000/year to your 401(k) that earns you 10% year. After retirement, you earn $60,000/year, have no kid deduction and do not contribute to a 401(k). Both before and after retirement your tax bracket is 25%. You live 20 years after retirement. Contributing to Roth 401(k): * Before Retirement Income = $80,000 * Before Retirement Taxable = $60,000 (income less kids) * Before Retirement Tax = $15,000 (effective rate is 18.75%) * 401(k) balance after 20 years = $572,750 (10% return) * After Retirement Income = $60,000 * After retirement income from 401(k) = $28,638 * After Retirement Taxable = $31,362 (income - 401k) * After Retirement Tax = $7,840 (effective rate is 13%). Contribute to Traditional 401(k): * Before Retirement Income = $80,000 *Before Retirement Taxable = $50,000 (income -kids -401k) * Before Retirement Tax = $12,500 (effective rate is 15.60%) * 401(k) balance after 20 years = $572,750 * Other investment balance after 20 years = $108,260 (7.5% after tax return from investing annual $2500 tax savings in regular taxable account) * After Retirement Income = $60,000 * After retirement income from 401(k) = $28,638 * After retirement income from other investments = $5,413 * After Retirement Taxable = $54,600 (income - other investments ... these were already taxed) * After Retirement Tax = $13,647 (effective rate is 22.74%). Conclusion: Contributing to Roth 401(k) or Traditional 401(k) results in same 401(k) balance of $572,750 after 20 years. Because the Roth 401(k) is not taxed, you will save $116,000 in taxes over the 20 years of your retirement. However, if you contribute to the Traditional 401(k), you get a $2,500/year tax savings today that you can invest to build a balance of $108,260 by retirement. Thus: Roth 401(k) tax savings during retirement = $116,000 Benefit of investing today tax savings from = $(108,260) traditional 401(k) Net 40 year benefit of choosing Roth 401(k) = $7,740 I really like the Roth IRA option, plus it sounds like your tax bracket will most likely go up in the future. You can pay your taxes now and then live the tax-free part in the future! I love tax advantages!!! http://www.josephsangl.com I WOLUD SAY INVEST IN SOME SORT OF BIRTH CONTROL METHOD MYSELF WOW FIVE KIDS ,,, If you are eligible for a ROTH IRA, chances are that your tax rate is not too high. However your first retirement contribution should be to get any company match from your 401k. After that a ROTH is usually the recommended approach. If you fully fund the ROTH(4K), then contribute unmatched to your 401k. As a general rule, it is better to fund a 401k plan before a Roth IRA for a number of reasons: 1. Employer Match - It is like getting money for free. At the very least, you should contribute up to the point where you no longer get a match. 2. Deposits are Tax Deferred - Rather than give this money to the government right away, you can have it work for you rather than them. 3. Tax Implications - If you are planning to start withdrawing your retirement savings AFTER you retire, you will be paying the tax on your 401k proceeds in a lower bracket than when you were working. That is a generalization, but holds true for many people. You will have to do the figuring in your own personal circumstance. Your question puts a lot of emphasis on tax implications. While these can't be discounted, I think numbers 1 and 2 above far outweigh your tax concerns. While people here can help you, it is always a good idea to get some advice from a professional. I would sit down with someone that charges per hour, rather than on a commission. It will only take about an hour, and you will get a far more detailed answer that will be tailored to your own situation. |
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