t401k vs. r401k vs. tIRA vs. rIRA

Have a question about your personal investments? No matter how simple or complex, you can ask it here.
Post Reply
Topic Author
INTRESIS
Posts: 94
Joined: Sat Nov 15, 2014 12:39 pm

t401k vs. r401k vs. tIRA vs. rIRA

Post by INTRESIS »

My employer offers both a traditional 401k and a Roth 401k. I am currently contributing 5% on the traditional 401k up to the company match. I recently paid off my student loans and I want to contribute more to my retirement. I am in my late 20's, and I know the importance of investing early for retirement. I crunched the numbers, and I should be able to contribute roughly another 12% of the gross income to my retirement. This topic is about where I should invest that additional 12%. I am keeping the first 5% in my traditional 401K for the company match. Given my line of work and salary projections, I strongly believe that my salary will be higher when I retire than it is right now. I was planning on doing a Roth IRA, but that was before I was aware that my employer also offers a Roth 401K in addition to the traditional 401K. If I did a Roth IRA wouldn't I be taxed double, since I get taxed when I receive my paycheck, and then again when I invest that money into the Roth IRA? I think that being able to use a Roth IRA as a potential emergency fund is also appealing to me.
Topic Author
INTRESIS
Posts: 94
Joined: Sat Nov 15, 2014 12:39 pm

Re: t401k vs. r401k vs. tIRA vs. rIRA

Post by INTRESIS »

The 401K options with my employer are with the Vanguard target retirement fund.
My employer also offers a pension.
User avatar
Makaveli
Posts: 694
Joined: Mon May 19, 2014 11:18 pm

Re: t401k vs. r401k vs. tIRA vs. rIRA

Post by Makaveli »

INTRESIS wrote:My employer offers both a traditional 401k and a Roth 401k. I am currently contributing 5% on the traditional 401k up to the company match. I recently paid off my student loans and I want to contribute more to my retirement. I am in my late 20's, and I know the importance of investing early for retirement. I crunched the numbers, and I should be able to contribute roughly another 12% of the gross income to my retirement. This topic is about where I should invest that additional 12%. I am keeping the first 5% in my traditional 401K for the company match. Given my line of work and salary projections, I strongly believe that my salary will be higher when I retire than it is right now. I was planning on doing a Roth IRA, but that was before I was aware that my employer also offers a Roth 401K in addition to the traditional 401K. If I did a Roth IRA wouldn't I be taxed double, since I get taxed when I receive my paycheck, and then again when I invest that money into the Roth IRA? I think that being able to use a Roth IRA as a potential emergency fund is also appealing to me.
Negative on being taxed double. Roth 401k or IRA are funded with after-tax contributions. Once taxed (one-time), you can plug them in. Ta-da, tax-free growth.

I believe in account diversification. For maximum flexibility in the future I want somewhat equivalent pots of tax-deferred (401k), tax-free (Roth), and taxable dollars. Are you close to maxing 401k ($18k limit) with 17% contribution?

Without knowing your current tax bracket or projected future I would...
Maintain 5% to 401k (does not matter if traditional or Roth, you will still earn the company match which automatically goes into the traditional bucket)
Fill Roth IRA ($5.5k limit this year)
Dump the rest into the traditional 401k

As income grows...

Max company 401k match
Max Roth IRA
Max 401k traditional space
Max 401k aggregate level (research mega backdoor, does your employer offer?)

-Maka
rkhusky
Posts: 10520
Joined: Thu Aug 18, 2011 8:09 pm

Re: t401k vs. r401k vs. tIRA vs. rIRA

Post by rkhusky »

INTRESIS wrote: Given my line of work and salary projections, I strongly believe that my salary will be higher when I retire than it is right now.
What matters most is whether you will be in a higher tax bracket in retirement than what you are in right now, which in turn depends on your expenses in retirement, how big of a pension you will have, how much Social Security you expect, and how big your tax deferred account will be (because you will have to withdraw RMD's starting at 70.5).

Keep in mind that tax brackets tend to increase with time. So, your salary would need to essentially rise quicker than inflation. And to jump tax brackets, you would need a significant boost in salary, not just a gradual increase.

There are some situations where that is obvious - you are a future doctor, lawyer, engineer, etc. in training, and hence you expect your wages to quadruple in 5-10 years.

It is a useful exercise to run the numbers and try to estimate expenses, pension, SS, account balances in retirement, and then estimate the tax bracket into which you might land.
Last edited by rkhusky on Fri Jul 31, 2015 11:01 am, edited 1 time in total.
retiredjg
Posts: 42214
Joined: Thu Jan 10, 2008 12:56 pm

Re: t401k vs. r401k vs. tIRA vs. rIRA

Post by retiredjg »

A combination that works out for a lot of people is a traditional 401k and Roth IRA combination. Once you can fill both of those and still have money to save for retirement, add on a taxable account as a location for retirement money. There are variations, but this is a good place to start.

Without knowing more about your situation - your tax bracket, how much you save, how fast your salary will increase - it is not possible to suggest just what the best approach might be.

As noted already, it does not matter what your salary at retirement is. It is your income in retirement. Do not confuse wealth with high income - one does not always equal the other.
Dulocracy
Posts: 2303
Joined: Wed Feb 27, 2013 1:03 pm
Location: Atlanta, GA

Re: t401k vs. r401k vs. tIRA vs. rIRA

Post by Dulocracy »

The difference between a traditional and Roth account is that the Roth (not roth or ROTH as it is a formal name of the man that originated it and not an acronym) is post tax dollars, but you are NEVER TAXED AGAIN on the money. With traditional, you are not taxed until it is time to pull the money out.

There are lots of arguments for and against each account, but I believe that most agree that if you EVER expect to be a high income earner, you want a Roth IRA. Why? You can backdoor money into it when your income is too high to contribute directly. Trust me, if you get to that point, you will dance for joy at the opportunity. Why does it matter what you invest in now? If you invest in the traditional IRA, you are going to wind up with tax issues (and likely having to pay taxes for a conversion on all of the contributions and growth to switch it to Roth or wind up being taxed in a way that creates tax issues). By using Roth for the IRA now, you set yourself up for being able to use the Roth in the future.
I'm not a financial professional. Post is info only & not legal advice. No attorney-client relationship exists with reader. Scrutinize my ideas as if you spoke with a guy at a bar. I may be wrong.
retiredjg
Posts: 42214
Joined: Thu Jan 10, 2008 12:56 pm

Re: t401k vs. r401k vs. tIRA vs. rIRA

Post by retiredjg »

Dulocracy wrote:There are lots of arguments for and against each account, but I believe that most agree that if you EVER expect to be a high income earner, you want a Roth IRA. Why? You can backdoor money into it when your income is too high to contribute directly. Trust me, if you get to that point, you will dance for joy at the opportunity. Why does it matter what you invest in now? If you invest in the traditional IRA, you are going to wind up with tax issues (and likely having to pay taxes for a conversion on all of the contributions and growth to switch it to Roth or wind up being taxed in a way that creates tax issues). By using Roth for the IRA now, you set yourself up for being able to use the Roth in the future.
I agree with this, but want to clarify something.

Use Roth IRA in preference to traditional IRA in most situations (realizing there are a few exceptions where traditional IRA might be better).

This does not mean use to Roth IRA in preference to traditional 401k. That is a different question and there are other things that determine which of those might be better.
clydewolf
Posts: 760
Joined: Tue Jul 21, 2015 12:51 pm

Re: t401k vs. r401k vs. tIRA vs. rIRA

Post by clydewolf »

Yes, put this added contribution into a ROTH IRA.
Why?
Should you ever need some extra money, you can take a distribution from your ROTH IRA of your annual contributions free from tax and penalty. Money from a ROTH IRA comes out in an ordered sequence:
- First to be distributed is your annual contributions free from tax and free from the 10% early distribution penalty.
- Second to be distributed is conversion amounts. The 10% early distribution penalty may apply.
- Last to be distributed is gains. Tax and early distribution penalty will apply unless your ROTH IRA is qualified.

A ROTH IRA is qualified when the owner is age 59 1/2 and has owned a ROTH IRA for at least 5 years.
At age 59 1/2 the 10% early distribution penalty is removed.

When your annual contribution to your ROTH IRA does not use all of this added retirement savings, then contribute to your ROTH 401k. Distributions from the 401k will consist of tax deferred money and after tax (ROTH) money based on the ratio of the two types in your 401k.

Should you have a Traditional IRA (TIRA) now, you may want to convert that to a ROTH IRA now so that later in your earning years, when you are earning too much to contribute to a ROTH IRA, you can take full advantage of the "Back Door Roth Contribution".
Post Reply