New to US: questions about retirement accounts

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Topic Author
marky2kk
Posts: 37
Joined: Tue Feb 11, 2020 10:53 am

New to US: questions about retirement accounts

Post by marky2kk » Sun Mar 01, 2020 12:08 am

Hi,

I am 31, fairly new to the U.S. (not a citizen), and started reading up on retirement accounts. Currently, I have a 401k (or whatever they are called when you are federal employee) and a taxable brokerage account. I am single filing, my marginal tax rate is close to 50%, and my income is above $200k. I do not plan to retire in the U.S, although one never knows.

So, with that in mind I am lost in the jungle of contribution limits and rules regarding traditional IRAs and roth IRAs. This is all new to me. Currently,

1) I contribute the maximum of pre-tax dollars ($19,500) or so to my employer sponsored plan. This is an easy choice.
2) I neither own a traditional IRA or a Roth IRA.

My questions:

1) I am not allowed to make tax-deductible contributions to a traditional IRA because my income is too high. I could still open an IRA and contribute $5,500 year and the benefit would be that the money grows tax-free (no tax on dividends, capital gains), etc.?

2) I cannot even open a roth IRA at all because my income is too high?

3) I could open a traditional IRA and do a backdoor roth. I would NOT owe taxes when I do the conversion (except for any capital gains) because my traditional IRA contributions are not deductible in the first place.

The traditional IRA seems to make little sense because withdrawals are taxed in retirement, but I get no deduction in the first place. So 3) seems like the only viable option. My preferred country of retirement in fact taxes roth IRA distributions, negating its value (except for tax-free growth and delaying the tax payment), but it does provide a hedge in case I do decide to retire in the U.S.

Overall, this seems like a lot of hazzle and I do not think it's worth it, but I would like to check with you guys so I don't make a costly mistake.

abyan
Posts: 544
Joined: Mon Jun 23, 2014 8:51 pm

Re: New to US: questions about retirement accounts

Post by abyan » Sun Mar 01, 2020 12:40 am

Be aware that a Roth may not be recognized as tax-free by the non-US country you possibly retire in.

lakpr
Posts: 5384
Joined: Fri Mar 18, 2011 9:59 am

Re: New to US: questions about retirement accounts

Post by lakpr » Sun Mar 01, 2020 7:07 am

@abyan makes a very good point. What country are you from, and does US have a tax treaty with your home country? If you are going to leave the US after certain number of years, you might find yourself in tax hell.

While in the US, of course save taxes by fully maximizing your 401k contributions. If you are a Federal employee, it is called the Thrift Savings Plan (TSP), and it is considered the platinum standard of all 401k plans in the country. Do not ever close the plan even if you are no longer a Federal employee. It has some really unicorn benefits such as the G fund that is guaranteed to never lose money with the full faith of the US government backing up that fund. It also allows rollovers from other pretax IRAs / 401k plans that you may have from other jobs in the future which might help with lowering your tax costs.

As far as Roth IRAs, do you plan to live in this country for at least 5 years? If you do, doing the backdoor Roth is still worthwhile for you. It is a 3 step process.

1. Make sure you have zero balance in any IRA that is not prefixed by Roth ( traditional IRA, rollover IRA, SEP IRA, SIMPLE IRA etc.). It appears you do meet this condition.

2. Contribute to a Traditional IRA. Put it in a money market fund. As you noted, it is not tax deductible. But hold on.

3. After the contribution settles (usually 2 business days), convert it to Roth IRA. Then invest in any mutual fund or ETF you want to. All future

You will owe taxes on any gains between step 2 and step 3. Not on the contribution. This is better than taxable account since you will have no capital gains taxes when you sell. The trade off is that, if you withdraw gains before age 59.5, the gains are taxed as ordinary income and also a 10% penalty. But, withdrawals from Roth are considered contributions first. So if you contribute $6000 per year for 5 years, and it grows to, say, $40000; if you withdraw $20k, no taxes no penalties. Withdraw another $10k, no taxes no penalties either. Withdraw another $3k then you pay $300 penalty and whatever taxes are due on $3k - since your withdrawals now exceeded the contributions.

If you do end up leaving the country, you can withdraw all your contributions and repatriate with no US taxes due. You will have to make a decision only on the growth part.

I think it is a good idea to do the backdoor Roth regardless of the tax treaty status for US tax reasons while you remain in the US.

If you did have at least $6000 in income for 2019, hurry up and do steps 1 through 3 before April 15, 2020. If you have at least $6000 earned for 2020 so far, you can double up both years’ contributions at once for $12000 in a Roth account.

Topic Author
marky2kk
Posts: 37
Joined: Tue Feb 11, 2020 10:53 am

Re: New to US: questions about retirement accounts

Post by marky2kk » Sun Mar 01, 2020 1:07 pm

My preferred country of retirement is Germany. I don't know how long I will stay in the U.S., at least another 3 years or so. I will get a green card this year.

Germany taxes Roth distributions. I found this is in another forum: "2) For Roth IRA's, the result is not as good. Roth IRA's take posttax contributions. In the US, distributions are tax free. In Germany however, the gains are likely taxable. So the tax benefit of a Roth IRA is then lost, as compared to a vanilla brokerage account. I don't plan to contribute more money to my Roth IRA's." (https://www.toytowngermany.com/forum/to ... -ira-roth/)

So if I retire with certainty in Germany, the only benefit is the interest on interest effect on not-paid taxes in the Roth IRA because Germany does not touch the gains in the Roth IRA until they are withdrawn. So dividends, interest, etc. can be reinvested tax-free until retirement.

Now, delaying taxation for 30 years may give a decent benefit ... on the other hand, all these rules and that the main benefit of the Roth IRA, the tax-free distributions, are likely gone for myself makes it much more unattractive.

lakpr
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Joined: Fri Mar 18, 2011 9:59 am

Re: New to US: questions about retirement accounts

Post by lakpr » Sun Mar 01, 2020 1:46 pm

marky2kk wrote:
Sun Mar 01, 2020 1:07 pm
My preferred country of retirement is Germany. I don't know how long I will stay in the U.S., at least another 3 years or so. I will get a green card this year.

Germany taxes Roth distributions. I found this is in another forum: "2) For Roth IRA's, the result is not as good. Roth IRA's take posttax contributions. In the US, distributions are tax free. In Germany however, the gains are likely taxable. So the tax benefit of a Roth IRA is then lost, as compared to a vanilla brokerage account. I don't plan to contribute more money to my Roth IRA's." (https://www.toytowngermany.com/forum/to ... -ira-roth/)

So if I retire with certainty in Germany, the only benefit is the interest on interest effect on not-paid taxes in the Roth IRA because Germany does not touch the gains in the Roth IRA until they are withdrawn. So dividends, interest, etc. can be reinvested tax-free until retirement.

Now, delaying taxation for 30 years may give a decent benefit ... on the other hand, all these rules and that the main benefit of the Roth IRA, the tax-free distributions, are likely gone for myself makes it much more unattractive.
With this information, I suggest that you still contribute to a Roth IRA as long as you remain in the US. Just before relocating to Germany, then, withdraw all contributions from the Roth IRA, so that all that's left within the Roth are earnings. That distribution is not taxable in the US, and since you will have it in a taxable account prior to relocating in Germany, it would not be taxable there either (my assumption). Since you said Germany does not touch the gains in the Roth IRA until withdrawn, and so does US, you can leave the gains in the Roth IRA until you reach the age of 59.5. It will not be taxable in the US but taxable in Germany, but I think that's the identical treatment for a taxable account as well, no?

Of course, this assumes you will keep track of how much you contributed to Roth in each year. If you stick to a single brokerage firm to contribute the Roth IRA, that brokerage firm can keep track of that information for you. You are on your own only if you move the Roth IRA around.

pasadena
Posts: 478
Joined: Sat Jul 02, 2016 1:23 am
Location: Washington State

Re: New to US: questions about retirement accounts

Post by pasadena » Sun Mar 01, 2020 2:02 pm

I second the Roth IRA. While gains may be taxed by Germany, the fact that the money grows tax-free is fairly valuable. If you put that money in a taxable account instead, dividends will be taxed every year, at your marginal tax rate (fed + state).

As a foreigner myself, if I had only one advice to give you, it would be to go and read the tax treaty between the US and Germany yourself. Undertanding this document, its protocol and all its details is the most important thing that you can do. I have found a lot (and I mean a lot) of infos in forums that turned out to be wrong once I read the treaty between the US and my country (France). For example, lots of people think France will tax Roth IRAs, when it will actually be taxed in the US (so, effectively tax free).

Also read up on Social Security (retirement) and how it will be assessed by both the US and Germany once you return. As a Fed employee, I don't know if you are being taxed on this, but if you are, and you stay fewer that 10 years, you might not get any of the benefits. It's important to understand the potential impact on your German state pension.

Topic Author
marky2kk
Posts: 37
Joined: Tue Feb 11, 2020 10:53 am

Re: New to US: questions about retirement accounts

Post by marky2kk » Sun Mar 01, 2020 2:03 pm

lakpr wrote:
Sun Mar 01, 2020 1:46 pm
marky2kk wrote:
Sun Mar 01, 2020 1:07 pm
My preferred country of retirement is Germany. I don't know how long I will stay in the U.S., at least another 3 years or so. I will get a green card this year.

Germany taxes Roth distributions. I found this is in another forum: "2) For Roth IRA's, the result is not as good. Roth IRA's take posttax contributions. In the US, distributions are tax free. In Germany however, the gains are likely taxable. So the tax benefit of a Roth IRA is then lost, as compared to a vanilla brokerage account. I don't plan to contribute more money to my Roth IRA's." (https://www.toytowngermany.com/forum/to ... -ira-roth/)

So if I retire with certainty in Germany, the only benefit is the interest on interest effect on not-paid taxes in the Roth IRA because Germany does not touch the gains in the Roth IRA until they are withdrawn. So dividends, interest, etc. can be reinvested tax-free until retirement.

Now, delaying taxation for 30 years may give a decent benefit ... on the other hand, all these rules and that the main benefit of the Roth IRA, the tax-free distributions, are likely gone for myself makes it much more unattractive.
With this information, I suggest that you still contribute to a Roth IRA as long as you remain in the US. Just before relocating to Germany, then, withdraw all contributions from the Roth IRA, so that all that's left within the Roth are earnings. That distribution is not taxable in the US, and since you will have it in a taxable account prior to relocating in Germany, it would not be taxable there either (my assumption). Since you said Germany does not touch the gains in the Roth IRA until withdrawn, and so does US, you can leave the gains in the Roth IRA until you reach the age of 59.5. It will not be taxable in the US but taxable in Germany, but I think that's the identical treatment for a taxable account as well, no?

Of course, this assumes you will keep track of how much you contributed to Roth in each year. If you stick to a single brokerage firm to contribute the Roth IRA, that brokerage firm can keep track of that information for you. You are on your own only if you move the Roth IRA around.
Yes, so the main advantage with the Roth IRA is that Germany does not touch it until retirement, i.e. dividends and interest accrue tax-free, if I understand the double-taxation treaty correctly. On the other hand, with a German taxable brokerage account interest and dividends before retirement would be taxed (just like in the U.S.) and they don't accumulate tax-free.

So advantages: tax-free accumulation of interest and dividends, hedge for retiring in the U.S., tax laws may change in 30 years.

Disadvantages: no tax-free distributions as of now, capital gains+interest+dividends are locked up until retirement unless 10% penalty is paid, admin hassle.

Your plan sounds good I think. I do have a HSA account with TD ameritrade, but that should not matter, right? I can just open a traditional IRA with ameritrade and then backdoor it, right?

lakpr
Posts: 5384
Joined: Fri Mar 18, 2011 9:59 am

Re: New to US: questions about retirement accounts

Post by lakpr » Sun Mar 01, 2020 2:20 pm

marky2kk wrote:
Sun Mar 01, 2020 2:03 pm
Yes, so the main advantage with the Roth IRA is that Germany does not touch it until retirement, i.e. dividends and interest accrue tax-free, if I understand the double-taxation treaty correctly. On the other hand, with a German taxable brokerage account interest and dividends before retirement would be taxed (just like in the U.S.) and they don't accumulate tax-free.

So advantages: tax-free accumulation of interest and dividends, hedge for retiring in the U.S., tax laws may change in 30 years.

Disadvantages: no tax-free distributions as of now, capital gains+interest+dividends are locked up until retirement unless 10% penalty is paid, admin hassle.

Your plan sounds good I think. I do have a HSA account with TD ameritrade, but that should not matter, right? I can just open a traditional IRA with ameritrade and then backdoor it, right?
Correction on your "Disadvantages": distributions are tax-free, UP TO the amount of your contributions. See my example above, quoting myself:
withdrawals from Roth are considered contributions first. So if you contribute $6000 per year for 5 years, and it grows to, say, $40000; if you withdraw $20k, no taxes no penalties. Withdraw another $10k, no taxes no penalties either. Withdraw another $3k then you pay $300 penalty and whatever taxes are due on $3k - since your withdrawals now exceeded the contributions.
The second part of your sentence is correct, the cap gains, interest and dividends are locked up until age 59.5; not necessarily "retirement", as in you cease working and survive mainly on pensions and distributions from retirement plans. But if that's the age around which you intend to retire, I am ok with using the terms interchangeably.

Yes you are right, the HSA account has no bearing on the backdoor Roth.

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