Where would you put the extra each month?

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frugalmama
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Where would you put the extra each month?

Post by frugalmama » Mon May 21, 2018 12:06 pm

I need help figuring out what is the best direction to go with extra cash (5-20K) each year (income fluctuates a lot monthly)...and some general questions about retirement accounts. I appreciate any help you can give.

This is a revision post based off of this thread: viewtopic.php?f=1&t=249692 (if you want more info.)

In summary: We currently contribute to my husband's mandatory pension and max our our Roths (5500 each). We are in the 10% tax bracket but most of what we pay is SE. Due to the pension and our current assets/RMDs, we will be in a higher tax bracket later in life.

I'm self employed right now. I contributed to a SEP in the past for this and another business (no longer in existence) - which it seems was a bad idea based on some other threads I've read on here... DH also has a large SEP (from a previous business). I'm thinking I should have been contributing to a solo 401(K) as the employer and he should have been too.

DH currently has 403(B) and a 457 available to him in addition to self-employed options but there is no matching.

We also have 10 kids that I'm trying to fund college for so each has a 529 (underfunded but could pay cash for some, especially later as I plan to eventually go back to work full time).

Questions -
1) Does a 401(K) employer contribution actually reduce my SE income or does it really end up being a wash when all is said and done?

1) Where would you put the money? - 529 or one of these retirement accounts I have available and which one? I'm thinking my best option would be to stop the SEP and create a solo 401(K) employer contribution, right? I could have flexibility to wait until year end to contribute so that I could use the reserve as an additional EF until then each year?

2) If your SEP is for a different business (both schedule C) and one no longer exists, can you roll them both to the solo 401K? Additionally, am I really supposed to have different SEPs/401(K)s. for different schedule Cs? (I have multiple schedule Cs right now).

3) Knowing my tax bracket will increase in the future, would you try moving more to Roths rather than tax deferred? It sounds like I shouldn't put all my eggs in one basket based on the threads I've read since taxation of Roths could one day change, but I'm sort of unclear what to do with all these different accounts. If I should roll our SEPs, when should I do that ?- now when I'm in the 10% bracket or after I see where I'm at closer to retirement?

4) If you had this many kids to pay for college would you try to leave what you had in the accounts and cash roll the first kids (and roll their accounts to the following kids) or the last kids and invest in retirement/last kids more now? The first kids obviously have the most in their accounts right now. If DH retires in his early 60s, we will have a few years of college to pay still.

Thanks in advance for your help!

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FiveK
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Re: Where would you put the extra each month?

Post by FiveK » Tue May 22, 2018 1:26 am

frugalmama wrote:
Mon May 21, 2018 12:06 pm
Questions -
1a) Does a 401(K) employer contribution actually reduce my SE income or does it really end up being a wash when all is said and done?

1b) Where would you put the money? - 529 or one of these retirement accounts I have available and which one? I'm thinking my best option would be to stop the SEP and create a solo 401(K) employer contribution, right? I could have flexibility to wait until year end to contribute so that I could use the reserve as an additional EF until then each year?

2) If your SEP is for a different business (both schedule C) and one no longer exists, can you roll them both to the solo 401K? Additionally, am I really supposed to have different SEPs/401(K)s. for different schedule Cs? (I have multiple schedule Cs right now).

3) Knowing my tax bracket will increase in the future, would you try moving more to Roths rather than tax deferred? It sounds like I shouldn't put all my eggs in one basket based on the threads I've read since taxation of Roths could one day change, but I'm sort of unclear what to do with all these different accounts. If I should roll our SEPs, when should I do that ?- now when I'm in the 10% bracket or after I see where I'm at closer to retirement?

4) If you had this many kids to pay for college would you try to leave what you had in the accounts and cash roll the first kids (and roll their accounts to the following kids) or the last kids and invest in retirement/last kids more now? The first kids obviously have the most in their accounts right now. If DH retires in his early 60s, we will have a few years of college to pay still.
1a. Don't know solo 401k details.
1b. Not a 529 - but that's based on the guess that you are likely to receive significant financial aid from any college. Have you looked at Resources | Federal Student Aid or similar?

2. Yes to the rollover - see https://www.irs.gov/pub/irs-tege/rollover_chart.pdf. Would guess "yes" on the need to have separate plans for separate businesses, but not 100% sure.

3. If your marginal rate is indeed the same as your tax bracket (10%), and you are reasonably sure both will increase in years to come, then Roth contributions and conversions are likely beneficial now.

But is your marginal rate actually 10%? You might benefit from putting numbers into the personal finance toolbox spreadsheet. Or, if your tax situation is too complex or you simply prefer to avoid spreadsheets, use the 2018 estimation capability of your preferred tax software to calculate marginal rates "by hand".

With the saver's, child tax, and earned income credits in play, your actual marginal rate may differ significantly from your bracket.

4. The "oxygen mask" analogy (see Investment Order) seems reasonable (and unless proven otherwise am still guessing financial aid will be significant), so I'd stop all 529 contributions and put that money toward 401ks and IRAs. Whether traditional or Roth would depend on the marginal rate answer.

JBTX
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Re: Where would you put the extra each month?

Post by JBTX » Tue May 22, 2018 9:47 am

frugalmama wrote:
Mon May 21, 2018 12:06 pm
I need help figuring out what is the best direction to go with extra cash (5-20K) each year (income fluctuates a lot monthly)...and some general questions about retirement accounts. I appreciate any help you can give.

This is a revision post based off of this thread: viewtopic.php?f=1&t=249692 (if you want more info.)

In summary: We currently contribute to my husband's mandatory pension and max our our Roths (5500 each). We are in the 10% tax bracket but most of what we pay is SE. Due to the pension and our current assets/RMDs, we will be in a higher tax bracket later in life.

I'm self employed right now. I contributed to a SEP in the past for this and another business (no longer in existence) - which it seems was a bad idea based on some other threads I've read on here... DH also has a large SEP (from a previous business). I'm thinking I should have been contributing to a solo 401(K) as the employer and he should have been too.

DH currently has 403(B) and a 457 available to him in addition to self-employed options but there is no matching.

We also have 10 kids that I'm trying to fund college for so each has a 529 (underfunded but could pay cash for some, especially later as I plan to eventually go back to work full time).

Questions -
1) Does a 401(K) employer contribution actually reduce my SE income or does it really end up being a wash when all is said and done?
The employer contribution does not decrease your self employment income, but it does decrease your personal income/AGI. Employer contributions are always traditional. Employee contributions can be traditional or Roth depending on what your plan allows.

1) Where would you put the money? - 529 or one of these retirement accounts I have available and which one? I'm thinking my best option would be to stop the SEP and create a solo 401(K) employer contribution, right? I could have flexibility to wait until year end to contribute so that I could use the reserve as an additional EF until then each year?
Generally solo 401k allows more contributions. At your income level I’m not sure. Hopefully others will chime in. As a general rule retirment contributions should take priority over funding college. Of course that depends on how well you have funded your retirement. Having 10 kids is an unusual situation and may require a different approach. However chances are a couple of your kids won’t go to college, so I would not overfund your 529. Maybe shoot for funding half of each kids college at a state school. With that many I’d strongly look at community college options for the first year or two.

2) If your SEP is for a different business (both schedule C) and one no longer exists, can you roll them both to the solo 401K? Additionally, am I really supposed to have different SEPs/401(K)s. for different schedule Cs? (I have multiple schedule Cs right now).
I’ll let others speak to this. I suspect there is a way to combine them, depending on the rules of the retirement plan providers.
3) Knowing my tax bracket will increase in the future, would you try moving more to Roths rather than tax deferred? It sounds like I shouldn't put all my eggs in one basket based on the threads I've read since taxation of Roths could one day change, but I'm sort of unclear what to do with all these different accounts. If I should roll our SEPs, when should I do that ?- now when I'm in the 10% bracket or after I see where I'm at closer to retirement?
Yes Roths are generally going to be more favorable for you at your tax bracket. Keep in mind your true marginal rate may be higher than your tax bracket, depending on if you are eligible for earned income tax credit, savers credit, or if you are in the phase out range of any other credits. I think it is always a good idea to have both traditional and Roth as your future is uncertain as well as tax policy down the road.
4) If you had this many kids to pay for college would you try to leave what you had in the accounts and cash roll the first kids (and roll their accounts to the following kids) or the last kids and invest in retirement/last kids more now? The first kids obviously have the most in their accounts right now. If DH retires in his early 60s, we will have a few years of college to pay still.

Thanks in advance for your help!

Keep in mind you can change the beneficiary of a 529 at any time. I probably would not open 10 529 accounts, at least not right away (unless your state allows for 529 income tax deduction ). It really depends on whether each goes to college and how much they need. I would not go overboard funding 529s at the expense of sufficient liquidity. While they are beneficial, if you stay at modest tax rates, your tax burden on a taxable account will likely be pretty low, so a 529 may only be a marginal benefit. If you are in a state where you get a 529 state tax deduction it may make sense to at least fund that and open more accounts to get that deduction

frugalmama
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Re: Where would you put the extra each month?

Post by frugalmama » Wed May 23, 2018 9:53 am

FiveK wrote:
Tue May 22, 2018 1:26 am

1b. Not a 529 - but that's based on the guess that you are likely to receive significant financial aid from any college. Have you looked at Resources | Federal Student Aid or similar?

3. If your marginal rate is indeed the same as your tax bracket (10%), and you are reasonably sure both will increase in years to come, then Roth contributions and conversions are likely beneficial now.

But is your marginal rate actually 10%? You might benefit from putting numbers into the personal finance toolbox spreadsheet. Or, if your tax situation is too complex or you simply prefer to avoid spreadsheets, use the 2018 estimation capability of your preferred tax software to calculate marginal rates "by hand".

With the saver's, child tax, and earned income credits in play, your actual marginal rate may differ significantly from your bracket.

4. The "oxygen mask" analogy (see Investment Order) seems reasonable (and unless proven otherwise am still guessing financial aid will be significant), so I'd stop all 529 contributions and put that money toward 401ks and IRAs. Whether traditional or Roth would depend on the marginal rate answer.
Thank you for the student aid link. I am going to delve into that today. I don't really understand financial aid and it didn't occur to me that we might get $ that didn't have to be paid back outside of regular private scholarships.

So, I'm still not sure of my marginal rate...I was just talking about the FIT rate (that doesn't include any SE that I pay). However, I learned a ton from that calculator. I am thinking I have a negative marginal rate believe it or not based on the way the RCTC and the CTC work. Is that possible? As I increase income the amount of my refund grows and I have no withholding marked.

frugalmama
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Re: Where would you put the extra each month?

Post by frugalmama » Wed May 23, 2018 10:05 am

JBTX wrote:
Tue May 22, 2018 9:47 am
1) Does a 401(K) employer contribution actually reduce my SE income or does it really end up being a wash when all is said and done?

The employer contribution does not decrease your self employment income, but it does decrease your personal income/AGI. Employer contributions are always traditional. Employee contributions can be traditional or Roth depending on what your plan allows.

OK, that makes sense. Thank you. Maybe I didn't screw up as bad as I thought I did with the SEP...I didn't have any more to contribute than I did at the time. I scrounged for that much, LOL!
JBTX wrote:
Tue May 22, 2018 9:47 am
With that many I’d strongly look at community college options for the first year or two.


Yes, we are definitely encouraging community college for some of them (and living with us during that time) for the basics, AP courses, etc. I got my bachelors and masters in 2.5 years that way and my husband did the same. So far they are doing pretty well with getting credit that will transfer appropriately to their institutions of choice.
JBTX wrote:
Tue May 22, 2018 9:47 am
Keep in mind you can change the beneficiary of a 529 at any time. I probably would not open 10 529 accounts, at least not right away (unless your state allows for 529 income tax deduction ). It really depends on whether each goes to college and how much they need. I would not go overboard funding 529s at the expense of sufficient liquidity. While they are beneficial, if you stay at modest tax rates, your tax burden on a taxable account will likely be pretty low, so a 529 may only be a marginal benefit. If you are in a state where you get a 529 state tax deduction it may make sense to at least fund that and open more accounts to get that deduction
Very very good point. Liquidity is very important in our situation as we don't have a very high income. We don't get a state tax deduction. Thank you for reminding me of that.

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FiveK
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Re: Where would you put the extra each month?

Post by FiveK » Wed May 23, 2018 11:55 am

frugalmama wrote:
Wed May 23, 2018 9:53 am
I am thinking I have a negative marginal rate believe it or not based on the way the RCTC and the CTC work. Is that possible? As I increase income the amount of my refund grows and I have no withholding marked.
It is unusual but possible. E.g., see the chart in Background on the EITC. It's for a previous year, but the concept remains: at very low income, the credit increases with income.

But if your income is that low, you wouldn't be in the 10% federal bracket, so...?

frugalmama
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Re: Where would you put the extra each month?

Post by frugalmama » Thu May 24, 2018 1:46 am

FiveK wrote:
Wed May 23, 2018 11:55 am

But if your income is that low, you wouldn't be in the 10% federal bracket, so...?
You are right. I think the problem is that I'm not sure what type of dollar we are calculating the marginal rate on - SE or W-2 dollar as it interacts in the equation differently. No...it wouldn't be 10%- 10% before the credits - and is a similar issue as the one in the article although we don't qualify for the EITC. We get a refund each year due to the number of kids that we have since the refundable credit is so large although it appears with the new laws, we won't be recapturing all of the non-refundable credit without an increase income. However, because I'm self employed, I still pay quite a bit of self employment tax (which is offsetting the non-refundable/refundable credit.) So, with the new tax laws, it appears that we could make quite a bit more in the SE business and the refund would pretty much stay the same (the increase in credit for the extra income is offsetting both halves of SE tax). However, if we are talking about regular W-2 income, if we make an extra 6750, we end up with almost an extra 1K in refundable credit, increasing our refund. In other words, we make money, we get more back. SO...unless the cash flow spreadsheet is wrong, it appears that we actually should NOT have an HSA or any type of tax-deferred account as just having an HSA decreases our refund about 1K. That is completely counter-intuitive to me.

Granted, that means that that if we only go taxable at this point, we won't get earnings tax free, but seeing that our income will greatly increase in about 5 years, it seems like rather than leave about a 15% guaranteed 1 year return tax free on the table (the refundable credit increase from not doing an HSA), I'd do better not doing an HSA or a 401K this year and putting it all in a taxable account yearly and then living off that and then maxing out both of our 403(b)s and 457s when we do make more, bringing us back to 0 taxes paid OOP (still counteracted by the refundable/nonrefundable credits).

I have to go back and look to see when the phase out begins as that has to be factored in.

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FiveK
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Re: Where would you put the extra each month?

Post by FiveK » Thu May 24, 2018 2:47 am

frugalmama wrote:
Thu May 24, 2018 1:46 am
I think the problem is that I'm not sure what type of dollar we are calculating the marginal rate on - SE or W-2 dollar as it interacts in the equation differently.
For traditional vs. Roth, you want to calculate the marginal tax saving rate using the traditional vehicle of choice. E.g., if it would be the 403b/457 plan for someone with only W-2 income, use the 403b or 457 cell for that person.

I don't know if that spreadsheet is set up to handle solo 401k contributions. It might be - I just don't know. E.g., do you get some W-2 income and a solo 401k reduces that, or do the solo 401k contributions reduce your "Schedule C net income", or both or neither?
No...it wouldn't be 10%- 10% before the credits - and is a similar issue as the one in the article although we don't qualify for the EITC. We get a refund each year due to the number of kids that we have since the refundable credit is so large although it appears with the new laws, we won't be recapturing all of the non-refundable credit without an increase income. However, because I'm self employed, I still pay quite a bit of self employment tax (which is offsetting the non-refundable/refundable credit.) So, with the new tax laws, it appears that we could make quite a bit more in the SE business and the refund would pretty much stay the same (the increase in credit for the extra income is offsetting both halves of SE tax). However, if we are talking about regular W-2 income, if we make an extra 6750, we end up with almost an extra 1K in refundable credit, increasing our refund. In other words, we make money, we get more back. SO...unless the cash flow spreadsheet is wrong, it appears that we actually should NOT have an HSA or any type of tax-deferred account as just having an HSA decreases our refund about 1K. That is completely counter-intuitive to me.
I've used the spreadsheet a fair amount and can probably answer most questions. To get into the goriest of details, it's probably best to ask in the MMM forum where it's hosted. As far as I know, it's accurate, but it and other software - even TurboTax - come out with corrections from time to time so there's never a 100% guarantee.

If you would provide the entries (if any) used for cells G2:H9 and H35:H36, and approximate values for any numbers entered in B1:D55 (and anywhere else, if any), I'd be happy to try to interpret the results to see if another pair of eyes sees the same as you.

Note there is still some lack of clarity on how the Child Tax Credit will be implemented in 2018. See (Refundable) Child Tax Credit in 2018 - Bogleheads.org for a good synopsis.
Granted, that means that that if we only go taxable at this point, we won't get earnings tax free, but seeing that our income will greatly increase in about 5 years, it seems like rather than leave about a 15% guaranteed 1 year return tax free on the table (the refundable credit increase from not doing an HSA), I'd do better not doing an HSA or a 401K this year and putting it all in a taxable account yearly and then living off that and then maxing out both of our 403(b)s and 457s when we do make more, bringing us back to 0 taxes paid OOP (still counteracted by the refundable/nonrefundable credits).
Roth will almost certainly be better than taxable, so if traditional has no advantage then Roth, not taxable, should be the preferred choice. Of course, if a Roth option is not available, then....

frugalmama
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Re: Where would you put the extra each month?

Post by frugalmama » Wed May 30, 2018 3:07 pm

FiveK wrote:
Thu May 24, 2018 2:47 am
frugalmama wrote:
Thu May 24, 2018 1:46 am
I think the problem is that I'm not sure what type of dollar we are calculating the marginal rate on - SE or W-2 dollar as it interacts in the equation differently.
For traditional vs. Roth, you want to calculate the marginal tax saving rate using the traditional vehicle of choice. E.g., if it would be the 403b/457 plan for someone with only W-2 income, use the 403b or 457 cell for that person.

I don't know if that spreadsheet is set up to handle solo 401k contributions. It might be - I just don't know. E.g., do you get some W-2 income and a solo 401k reduces that, or do the solo 401k contributions reduce your "Schedule C net income", or both or neither?
No...it wouldn't be 10%- 10% before the credits - and is a similar issue as the one in the article although we don't qualify for the EITC. We get a refund each year due to the number of kids that we have since the refundable credit is so large although it appears with the new laws, we won't be recapturing all of the non-refundable credit without an increase income. However, because I'm self employed, I still pay quite a bit of self employment tax (which is offsetting the non-refundable/refundable credit.) So, with the new tax laws, it appears that we could make quite a bit more in the SE business and the refund would pretty much stay the same (the increase in credit for the extra income is offsetting both halves of SE tax). However, if we are talking about regular W-2 income, if we make an extra 6750, we end up with almost an extra 1K in refundable credit, increasing our refund. In other words, we make money, we get more back. SO...unless the cash flow spreadsheet is wrong, it appears that we actually should NOT have an HSA or any type of tax-deferred account as just having an HSA decreases our refund about 1K. That is completely counter-intuitive to me.
I've used the spreadsheet a fair amount and can probably answer most questions. To get into the goriest of details, it's probably best to ask in the MMM forum where it's hosted. As far as I know, it's accurate, but it and other software - even TurboTax - come out with corrections from time to time so there's never a 100% guarantee.

If you would provide the entries (if any) used for cells G2:H9 and H35:H36, and approximate values for any numbers entered in B1:D55 (and anywhere else, if any), I'd be happy to try to interpret the results to see if another pair of eyes sees the same as you.

Note there is still some lack of clarity on how the Child Tax Credit will be implemented in 2018. See (Refundable) Child Tax Credit in 2018 - Bogleheads.org for a good synopsis.
Granted, that means that that if we only go taxable at this point, we won't get earnings tax free, but seeing that our income will greatly increase in about 5 years, it seems like rather than leave about a 15% guaranteed 1 year return tax free on the table (the refundable credit increase from not doing an HSA), I'd do better not doing an HSA or a 401K this year and putting it all in a taxable account yearly and then living off that and then maxing out both of our 403(b)s and 457s when we do make more, bringing us back to 0 taxes paid OOP (still counteracted by the refundable/nonrefundable credits).
Roth will almost certainly be better than taxable, so if traditional has no advantage then Roth, not taxable, should be the preferred choice. Of course, if a Roth option is not available, then....
Thank you so much for your reply...I apologize for taking so long to get back to this...End of School is very crazy with 10 kids. That refundable/non-refundable issue of the credit is exactly what is creating the results I'm seeing in my numbers. Thank you for a link to that thread. What it comes down to is that without making more, we are losing a large part of our non-refundable credit. So, we are paying no FIT and the SE tax gets paid by the credit, but when we lower our taxable income (through a 401K, HSA, etc.) it reduces our ability to qualify for all of the non-refundable credit as well. I appreciate your help. This all makes a lot more sense to me now and has made me realize I need to go a very different way (creating taxable income) than what I was thinking (trying to lower my taxable income).

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FiveK
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Re: Where would you put the extra each month?

Post by FiveK » Wed May 30, 2018 3:41 pm

frugalmama wrote:
Wed May 30, 2018 3:07 pm
This all makes a lot more sense to me now and has made me realize I need to go a very different way (creating taxable income) than what I was thinking (trying to lower my taxable income).
Good for you!

If there is something that appears incorrect in (or simply missing from) that spreadsheet applicable to your situation, you might post a note (or PM) to that effect in Case Study Spreadsheet updates. Can't guarantee the author will accommodate all requests, but many have been and at worst (based on my perception of historical practice) you'll get a polite reply with workarounds if practical.

frugalmama
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Re: Where would you put the extra each month?

Post by frugalmama » Wed May 30, 2018 10:11 pm

FiveK wrote:
Wed May 30, 2018 3:41 pm
frugalmama wrote:
Wed May 30, 2018 3:07 pm
This all makes a lot more sense to me now and has made me realize I need to go a very different way (creating taxable income) than what I was thinking (trying to lower my taxable income).
Good for you!

If there is something that appears incorrect in (or simply missing from) that spreadsheet applicable to your situation, you might post a note (or PM) to that effect in Case Study Spreadsheet updates. Can't guarantee the author will accommodate all requests, but many have been and at worst (based on my perception of historical practice) you'll get a polite reply with workarounds if practical.
Very cool! Thank you so much for all your help!!! I have learned so much from this exercise!

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