After tax contributions to 401k - worthwhile? [Savings Plan]

Non-investing personal finance issues including insurance, credit, real estate, taxes, employment and legal issues such as trusts and wills

After tax contributions to 401k - worthwhile? [Savings Plan]

Postby sethuvs » Mon Dec 17, 2012 9:15 pm

Originally posted in another thread: After tax contributions to 401k - worthwhile?, should be stand-alone. --admin LadyGeek]

quick question - My company gives two options after you hit the IRS max for 401k ($17,500 pre-tax or $255K compensation limit). 1) go with after-tax where they match 6% of pay, dollar‐for‐dollar or 2) company's own savings plan account, where money is pre-tax and we get match 6% of pay, dollar‐for‐dollar.

Our company's savings plan benefit is a general, unsecured promise of company to pay us the amount credited to Savings Plan account. Savings Plan benefits cannot be rolled over into an IRA or another qualified plan; they are fully taxable when received. Our company has been in business for more than 100 years and less likely to file any bankrupcy. I will not pay federal (and, in most cases, state and local) income taxes on the savings Plan contributions or the company’s contributions to the Savings Plan on my behalf, until after I quit.

I have seen the earlier post that doesn't advise after=tax contribution. Is the savngs plan a better option? anyone with similar experience?
sethuvs
 
Posts: 6
Joined: Mon Dec 17, 2012 9:00 pm

Re: After tax contributions to 401k - worthwhile? [Savings P

Postby mhc » Tue Dec 18, 2012 10:32 am

Welcome to the forum.

I think more info is needed:
1. What is your marginal tax rate?
2. Are you allowed to take in service distributions of after-tax 401k contributions?
3. What does the company invest the money in for the savings plan or do they guarantee a certain rate of return?
4. How long before you retire and/or quit the company?

The 6% match sounds like a good deal that does deserve consideration.
User avatar
mhc
 
Posts: 2380
Joined: Mon Apr 04, 2011 11:18 pm
Location: NoCo

Re: After tax contributions to 401k - worthwhile? [Savings P

Postby retiredjg » Tue Dec 18, 2012 5:45 pm

We don't know much, but for now, I'm going to vote for the after-tax contribution in the 401k. Here's why.

1) The savings plan is unsecured - they promise to pay and they probably will, but if they don't, your money is gone. The 401k, on the other hand, is yours. It will be yours even if the company folds or gets sued (think big - like the BP oil spill).

2) You get the match if you use the 401k or if you use the savings plan. The 401k is safe, the savings plan probably is, but may not be. What benefit is there to use the savings plan?

3) If you put the money into the after-tax 401k account and roll it out to Roth IRA, you do pay taxes now, but you control when you pay the taxes. If you put the money in the savings plan, it will all come out to you in a lump sum - you have no control over it and your tax rate could be quite high that year.

I have seen the earlier post that doesn't advise after=tax contribution.

Not sure what this is about. Generally, after-tax contributions are considered to be a really good thing. There can be some complexities about rolling it out, but they are not insurmountable.


I suppose if you are in a really high tax bracket, getting more money saved in a tax-deferred account is a good thing, but when it all comes out in a taxable lump, that might not be a good thing.

I'm curious about what kind of plan this is and how it is allowed by law. Is there some official name or a number or something? Could it be some kind of 457 plan?
retiredjg
 
Posts: 17393
Joined: Thu Jan 10, 2008 1:56 pm

Re: After tax contributions to 401k - worthwhile? [Savings P

Postby sethuvs » Wed Dec 19, 2012 5:06 pm

The Company Savings Plan mirrors many of the provisions of the tax-qualified 401(k) Savings Plan. The Company Savings Plan is a “nonqualified deferred compensation plan” under the Internal Revenue Code and as such, makes it possible for participants to earn benefits on all pay, including amounts in excess of annual legal limits that apply to the tax-qualified 401(k) Savings Plan. As a nonqualified plan, Savings Plan benefits are unfunded, are paid out of general company assets, and are therefore not protected under tax-qualified plan rules.

I have at least 20 years before retirement.
The company gives flexibility with the investment similar to the 401K plans. This is offered or managed through big firms such as Vanguard, Fidelity, etc. They purely do the job of book keeping/tracking investments.

The concern about after-tax contribution comes from this thread: viewtopic.php?t=71035
sethuvs
 
Posts: 6
Joined: Mon Dec 17, 2012 9:00 pm

Re: After tax contributions to 401k - worthwhile? [Savings P

Postby sethuvs » Wed Dec 19, 2012 5:10 pm

oh btw, Company Savings Plan has been designed to comply with section 409A of the Internal Revenue Code.
sethuvs
 
Posts: 6
Joined: Mon Dec 17, 2012 9:00 pm

Re: After tax contributions to 401k - worthwhile? [Savings P

Postby mhc » Wed Dec 19, 2012 5:27 pm

I use my company's Non-qualified deferred compensation plan. I think it is a great way to minimize taxes. One of the tricky things is how to manage distributions. Different plans have different distribution rules.

Obviously you are in a high tax bracket, so I would go with the deferred compensation plan. The after tax contributions to 401k would not save on current taxes.

Are you allowed to do both?

If you already have a sizable taxable account, I would shelter the money into one of the two plans before adding to the taxable account.
Last edited by mhc on Wed Dec 19, 2012 6:05 pm, edited 1 time in total.
User avatar
mhc
 
Posts: 2380
Joined: Mon Apr 04, 2011 11:18 pm
Location: NoCo

Re: After tax contributions to 401k - worthwhile? [Savings P

Postby retiredjg » Wed Dec 19, 2012 5:37 pm

sethuvs wrote:The concern about after-tax contribution comes from this thread: viewtopic.php?t=71035

Just on a quick reading, those things are not a concern if you can do in-service rollovers of your after-tax money a couple of times a year or maybe even just once a year. So far, it seems rare (but possible) for a plan not to allow the in-service rollovers.

Was there a specific thing that bothered you?
retiredjg
 
Posts: 17393
Joined: Thu Jan 10, 2008 1:56 pm

Re: After tax contributions to 401k - worthwhile? [Savings P

Postby retiredjg » Wed Dec 19, 2012 5:39 pm

sethuvs wrote:oh btw, Company Savings Plan has been designed to comply with section 409A of the Internal Revenue Code.

I don't know what to do with this info, but I feel sure that somebody here knows exactly what this is and could offer comments.

To get their attention, you might want to edit the title of this thread to include the Section 409A part.
retiredjg
 
Posts: 17393
Joined: Thu Jan 10, 2008 1:56 pm

Re: After tax contributions to 401k - worthwhile? [Savings P

Postby retiredjg » Wed Dec 19, 2012 7:33 pm

When the money is distributed to you, is it taxed at your marginal rate? If so, you will have turned what would have been capital gains (lower tax rate) into ordinary income (higher tax rate). I'm just talking about the earnings, not the contributions which would be taxed at your marginal rate either way.

What I'm thinking is this - if the money comes out all at one time, especially in a year in which you also have salary, your ordinary tax rate may be as high as you are paying now. If that's the case, what would be the benefit of putting this money away in a tax-deferred location? The way I understand it, the whole point of deferring taxes is to be able to pay taxes at a later time at a lower rate.

I'm not trying to suggest one plan over the other - I don't know enough to have much of an opinion. Mostly, I'm thinking out loud and trying to learn something about this type of plan.
retiredjg
 
Posts: 17393
Joined: Thu Jan 10, 2008 1:56 pm

Re: After tax contributions to 401k - worthwhile? [Savings P

Postby HopeToGolf » Fri Dec 21, 2012 9:00 pm

retiredjg wrote:When the money is distributed to you, is it taxed at your marginal rate? If so, you will have turned what would have been capital gains (lower tax rate) into ordinary income (higher tax rate). I'm just talking about the earnings, not the contributions which would be taxed at your marginal rate either way.

What I'm thinking is this - if the money comes out all at one time, especially in a year in which you also have salary, your ordinary tax rate may be as high as you are paying now. If that's the case, what would be the benefit of putting this money away in a tax-deferred location? The way I understand it, the whole point of deferring taxes is to be able to pay taxes at a later time at a lower rate.

I'm not trying to suggest one plan over the other - I don't know enough to have much of an opinion. Mostly, I'm thinking out loud and trying to learn something about this type of plan.



My company has one (deferred compensation plan) and it kicks in (if you elect it) once the federal limits on compensation/contributions are hit. The money is distributed upon separation (laid off, retired, fired, etc.). The money is taxed at your marginal rate. From a deferral standpoint, I think the idea is to hope you are in retirement once the distributions are made or you have some other reason to be in a low bracket. One of the benefits of the plan is to allow the employee to continue to receive the company match after the federal limits are hit.
HopeToGolf
 
Posts: 123
Joined: Fri Dec 24, 2010 5:04 pm

Re: After tax contributions to 401k - worthwhile? [Savings P

Postby sethuvs » Sun Dec 23, 2012 12:38 pm

thanks everyone for sharing views.

If I understand right - you can contribute to qualified plans (pre-tax or after-tax) until one of these happen: 1) pre-tax limit of $17, 500; 2) total compensation > 255K or 3) total qualified plan contribution >51K.

So if I hit total compensation of $255K around Sept then regardless of my pre-tax or after-tax contribution, I cannot contribute to Qualified Plans (i.e., 401K). So the options I have now are either pre-tax or after I hit the $255K mark utilize non-qualified company deferred plans. I somehow thought I can contribute to after-tax but looks like thats not possible under my scenario.

In order to maximize company matching, I probably use the company savings plan. just have to deal with it when I separate from the company... can't think of better option.
sethuvs
 
Posts: 6
Joined: Mon Dec 17, 2012 9:00 pm

Re: After tax contributions to 401k - worthwhile? [Savings P

Postby retiredjg » Sun Dec 23, 2012 1:06 pm

I think part of what you are saying is that the company match is spread out over 52 weeks and you only get it all if you are still making a contribution in those last weeks. That might mean you want to use the company savings plan from Sept to Dec. But it seems you would not have to contribute a lot to get the match, would you?

What's not clear is why you can't contribute after-tax money at some point. Let's use this year's numbers and say your company match is $15k. So there's your $17k in elective deferrals and their $15k in match, leaving you with $18k worth of space that could hold after-tax money contributed by you. The only way I can see that you would miss an after-tax opportunity is for your employer's match to be $33k. That's how I understand it anyway.

So, is the problem that your employer's match is too large to allow your after-tax contributions? If that's the case, it seems the company savings plan becomes your only choice. Not a bad problem to have, I guess. :wink:
retiredjg
 
Posts: 17393
Joined: Thu Jan 10, 2008 1:56 pm

Re: After tax contributions to 401k - worthwhile? [Savings P

Postby sethuvs » Sun Dec 23, 2012 2:21 pm

yes, you are right. there is a gap of $15K that I can contribute to after tax. I have never invested in a qualified after-tax account. I' have mixed opinion on after-tax 401K, esp., with record-keeping and benefits against regular taxable accounts. We maintain after -tax investments in very low expense index funds that are tax-efficient and I really don't see advantages in after-tax 401K. Unless I am missing something.
sethuvs
 
Posts: 6
Joined: Mon Dec 17, 2012 9:00 pm

Re: After tax contributions to 401k - worthwhile? [Savings P

Postby retiredjg » Sun Dec 23, 2012 3:14 pm

sethuvs wrote:yes, you are right. there is a gap of $15K that I can contribute to after tax. I have never invested in a qualified after-tax account. I' have mixed opinion on after-tax 401K, esp., with record-keeping and benefits against regular taxable accounts. We maintain after -tax investments in very low expense index funds that are tax-efficient and I really don't see advantages in after-tax 401K. Unless I am missing something.

I think you might be missing something. :happy

Most, but not all, 401k plans allow you to do an in-service rollover of that after tax money into a Roth IRA. It would be a nice way to get $15k into Roth IRA each year (in addition to your regular IRA/Roth IRA contributions). Your other choice is to put that $15k into a taxable account. Either way, the money will be taxed at your marginal rate. Hmm... Doesn't Roth IRA sound better than a taxable account?

This requires 2 things. First, the ability to contribute after-tax money into that $15k gap (apparently you do have that choice). Second, the ability to do an in-service rollover at least once a year, maybe even a couple of times a year. This is simply to keep the earnings at a minimum before you do the rollover to Roth IRA. The more earnings there are, the more tax will be paid to get that part of the money into Roth IRA. More frequent rollovers means less tax.

There are a few ways around this, but they are more complex and more trouble. First, decide if you are interested and find out if you can do the rollover. One other thing to find out is what else might have to come out of the 401k along with your after-tax money and its earnings. This seems to be uncommon, but at least one poster has run into this.

Once you find out those things, we can talk about the 5 or so different ways to do this rollover thing and which one you want to do.
retiredjg
 
Posts: 17393
Joined: Thu Jan 10, 2008 1:56 pm


Return to Personal Finance (Not Investing)

Who is online

Users browsing this forum: Bing [Bot], cbeck, Exabot [Bot], lrisius, Pixafari and 43 guests