Solo 401k - Roth vs Less Efficient Funds?

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lifix
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Solo 401k - Roth vs Less Efficient Funds?

Post by lifix » Thu Nov 23, 2017 11:04 am

31 years old, the last 5 I've been maxing out a Roth IRA, making <$45k. Roth options seem, from my limited understanding, to be incredibly attractive: I pay very little in taxes on my now, and I'd much rather pay taxes up front, to keep as much of my retirement savings tax free.

Now it's time for me to setup my Solo 401k, and the providers out there seem to be fairly different, in terms of their offering. I know everyone here really likes Vanguard, but they offer neither a Roth option, nor admiral shares for their Solo 401k. So, as I look around, I'm conflicted: is it better to go with someone like E*Trade, offering a Roth Solo 401k, but slightly more expensive funds, or better to go traditional Solo 401k at Fidelity or somewhere similar, where I can get the cheapest funds?

My gut says the Roth tax advantage is way more significant than an extra .005% in fees or whatnot, but i'm confused and looking for advice.

I intend on continuing to max out my Roth IRA contributions, regardless. I'm not opposed to E*Trade, they just don't have the name brand recognition of Vanguard/Schwab/Fidelity. And, I'm not looking for exotic funds: I just want a 2/3 fund portfolio that I can fire and forget.

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BolderBoy
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Re: Solo 401k - Roth vs Less Efficient Funds?

Post by BolderBoy » Thu Nov 23, 2017 11:35 am

lifix wrote:
Thu Nov 23, 2017 11:04 am
I know everyone here really likes Vanguard, but they offer neither a Roth option, nor admiral shares for their Solo 401k.
Ummm, my solo401k is with Vanguard and I have both the traditional and Roth 401k options in it.
"Never underestimate one's capacity to overestimate one's abilities" - The Dunning-Kruger Effect

billfromct
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Re: Solo 401k - Roth vs Less Efficient Funds?

Post by billfromct » Thu Nov 23, 2017 5:16 pm

As BolderBoy said, Vanguard does offer a Roth Individual (Solo) 401k. My daughter opened one 3 or 4 years ago when she was an independent contractor.

As you indicated, Vanguard does not offer Admiral shares in their I 401k but for 10 or 20 basis points, I would rather have all my investment accounts at a single company, especially as you get older & want to simplify things for your heirs.

bill

Spirit Rider
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Re: Solo 401k - Roth vs Less Efficient Funds?

Post by Spirit Rider » Thu Nov 23, 2017 5:47 pm

Fidelity and Schwab do not offer Roth designated accounts in their one-participant 401k plans. Although, they both offer index funds with expense ratios similar to Vanguard Admiral Shares.

Etrade, TD Ameritrade and Vangaurd offer Roth designated accounts in their one-participant 401k plans. As you already noted, Vanguard only allows the higher expense ratio Investor Shares in their Individual 401k. Also, recently TD Ameritrade dropped most Vanguard and many iShare ETFs from their commission free list.

So you either have to forgo the Roth option to go with low expense ratio index funds at Fidelity or Schwab or use the Roth and make very few Vanguard transactions at ETrade or TD Ameritrade.

JBTX
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Re: Solo 401k - Roth vs Less Efficient Funds?

Post by JBTX » Thu Nov 23, 2017 6:03 pm

I also have Roth solo 401k at vanguard. Set it up 3-4 years ago.

lifix
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Re: Solo 401k - Roth vs Less Efficient Funds?

Post by lifix » Thu Nov 23, 2017 7:17 pm

OK, thanks' for the replies! It appears I've been working off outdated information, and Vanguard does indeed offer Roth IRA funding.

So, now I'm left with the same decision: Roth contributions @ Vanguard, or cheaper funds but no roth contribution. How do I go about estimating this? FWIW: 36-45k a year, hoping to increase that a bit going forward. Never going to exceed 120k/yr.

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Veiled
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Re: Solo 401k - Roth vs Less Efficient Funds?

Post by Veiled » Thu Nov 23, 2017 8:47 pm

lifix wrote:
Thu Nov 23, 2017 7:17 pm
OK, thanks' for the replies! It appears I've been working off outdated information, and Vanguard does indeed offer Roth IRA funding.

So, now I'm left with the same decision: Roth contributions @ Vanguard, or cheaper funds but no roth contribution. How do I go about estimating this? FWIW: 36-45k a year, hoping to increase that a bit going forward. Never going to exceed 120k/yr.
Make the Roth vs no Roth decision by considering present and future tax brackets. At 45k, you're in the 2017 25% marginal tax bracket with an effective tax rate of 15.5%, taking nothing else into account. (If the current House bill goes through, you'll be in the 12% bracket; if the current Senate bill goes through, you'll be in the 22% marginal bracket with an effective rate of 12.97%. Hope that's allowed, I know theoretical discussion of the proposals are not, but I just wanted to offer info on how my answer may change.) What will your tax bracket be when you withdraw the funds from this 401k? Are you earning more now than you expect to withdraw yearly in retirement? I'll show you why this is really all that matters.

I don't know of a calculator that compares low-cost vs non low-cost and inclues how Roth vs Traditional affects that. However, Vanguard's fee comparison tool shows a 1k difference per 5.5k contribution*, stretched over 30 years for funds with ERs 10 basis points apart. This means that any single 5.5k contribution to a fund with ER 0.05% takes 30 years to accumulate 1k more than the same contribution (5.5k) invested in a fund charging 0.15%.

Image

A Roth vs Traditional calculator predicts almost the same difference. (For purposes of illustration, I assumed you were filing single and that your current tax bracket would be identical to your retirement bracket.I also assume that your "2/3 portfolio" was "moderately aggressive.") A 5.5k distribution in a Roth IRA takes 30 years to accumulate 1k more than a 5.5k traditional contribution as long as you're taking it out in the same bracket.

Image

If your current tax bracket is 10 or 18% higher than your predicted retirement bracket, you start to lose 1k or 2k per contribution over 30 years in the Roth and this difference outstrips the 1k difference of ERs or simple Roth vs traditional in the same bracket.

Image

I'm aware that you'll contribute far more than 5.5k to your 401k and that "1k differences" will be amplified, but my point is to illustrate that the difference between tax brackets matters more than the difference between ERs and Roth vs Traditional. Decide on your tax bracket, then decide what small difference to choose. (May have something to do with consolidating everything at one brokerage for simplicity etc.) Play around with your real data in those two calculators.

*I know you're interested in Roth 401ks, but the IRA calculators are far more common and are mostly limited to 5.5k yearly contributions, so that's what I used throughout the post so that things could be compared.
Last edited by Veiled on Fri Nov 24, 2017 10:19 pm, edited 1 time in total.
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Veiled
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Re: Solo 401k - Roth vs Less Efficient Funds?

Post by Veiled » Fri Nov 24, 2017 8:18 pm

While typing that I was looking for some type of average spending for retirees to help my calculations be more useful and couldn't find one. Then Taylor Larimore references an article citing that exact thing (actually cites expenditures for more than just retirees). Love this forum.
Pardon me as I read these one hundred and fifty-seven SP vs LLC vs Scorp threads...

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welderwannabe
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Re: Solo 401k - Roth vs Less Efficient Funds?

Post by welderwannabe » Fri Nov 24, 2017 9:04 pm

lifix wrote:
Thu Nov 23, 2017 11:04 am
31 years old, the last 5 I've been maxing out a Roth IRA, making <$45k. Roth options seem, from my limited understanding, to be incredibly attractive: I pay very little in taxes on my now, and I'd much rather pay taxes up front, to keep as much of my retirement savings tax free.

Now it's time for me to setup my Solo 401k, and the providers out there seem to be fairly different, in terms of their offering. I know everyone here really likes Vanguard, but they offer neither a Roth option, nor admiral shares for their Solo 401k. So, as I look around, I'm conflicted: is it better to go with someone like E*Trade, offering a Roth Solo 401k, but slightly more expensive funds, or better to go traditional Solo 401k at Fidelity or somewhere similar, where I can get the cheapest funds?

My gut says the Roth tax advantage is way more significant than an extra .005% in fees or whatnot, but i'm confused and looking for advice.

I intend on continuing to max out my Roth IRA contributions, regardless. I'm not opposed to E*Trade, they just don't have the name brand recognition of Vanguard/Schwab/Fidelity. And, I'm not looking for exotic funds: I just want a 2/3 fund portfolio that I can fire and forget.
I moved my and my wife's solo 401k from Vanguard to Fidelity. The Vanguard 401k options are quite limited. You can't use admiral funds or ETFs and some of Vanguard's funds are ONLY offered as ETF or Admiral leaving you out. You also can't hold CDs or individual bonds. It was far too limited for my tastes.

Vanguard's advantage is they have a Roth option for their solo 401k, but if you can do a Roth IRA separately I don't think that is a big deal.

I still have an account with Vanguard and keep my taxable stuff there as I think Vanguard has a superior selection of tax exempt bond fund offerings...but all my tax deferred is with Fidelity now.
I am not an investment professional, but I did stay at a Holiday Inn Express last night.

lifix
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Re: Solo 401k - Roth vs Less Efficient Funds?

Post by lifix » Mon Nov 27, 2017 2:24 am

Veiled wrote:
Thu Nov 23, 2017 8:47 pm
What will your tax bracket be when you withdraw the funds from this 401k? Are you earning more now than you expect to withdraw yearly in retirement? I'll show you why this is really all that matters.
Wow. Thank you so much for the breadth and depth of your reply. I'm sorry it's taken me so long to reply, but it took me a few days to digest what you've said.

From your post, I see that the most important factor is going to be tax brackets. And there's a bit of uncertainty there, as I'm not sure what my future earnings are going to look like. I took your advice and I played around with the calculators, and the thing I really, really, really liked about the roth options was that once the money was in the account, I knew how much I was gonna get out in retirement. I like that sort of stability, and I'll happily give up a little bit of money, so... definitely going with Vanguard for the roth option.

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Veiled
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Re: Solo 401k - Roth vs Less Efficient Funds?

Post by Veiled » Mon Nov 27, 2017 10:56 am

lifix wrote:
Mon Nov 27, 2017 2:24 am
Wow. Thank you so much for the breadth and depth of your reply. I'm sorry it's taken me so long to reply, but it took me a few days to digest what you've said. From your post, I see that the most important factor is going to be tax brackets. And there's a bit of uncertainty there, as I'm not sure what my future earnings are going to look like. I took your advice and I played around with the calculators, and the thing I really, really, really liked about the roth options was that once the money was in the account, I knew how much I was gonna get out in retirement. I like that sort of stability, and I'll happily give up a little bit of money, so... definitely going with Vanguard for the roth option.
It's great to hear your thoughts and your conclusion for yourself. I think there's uncertainty for many of us when it comes to future tax brackets. I really like that you identified something about yourself (almost like a facet of risk tolerance) that made your choice. That says to me that you're making the decision based on important and fundamental information that has a much less likely chance of changing when compared to other reasons for Roth vs traditional or one ER and another. Laws and charges are in other peoples' hands; your own comfort is in yours. Good for you for making a choice based on something in your hands.
Pardon me as I read these one hundred and fifty-seven SP vs LLC vs Scorp threads...

lifix
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Re: Solo 401k - Roth vs Less Efficient Funds?

Post by lifix » Mon Nov 27, 2017 11:09 am

Veiled wrote:
Mon Nov 27, 2017 10:56 am
It's great to hear your thoughts and your conclusion for yourself.
Haha, thank you! I've had a few sit-down meetings with my tax folk, but they were never able to explain it as clearly and succinctly as you were. Cheers!

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