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Author: jumpinjoe Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: of 121341  
Subject: 401(k) vs. after-tax savings Date: 12/6/2004 10:05 PM
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Has anyone looked at dumping the savings to a 401(k) and instead save that money in an aftertax account? Annually, I contribute 16% of my pay to a 401(k) plus a catchup contribution of $3,000 plus I fully fund a Roth IRA each year.

Looking at all the taxes that will be paid when the money comes out of the 401(k) or Rollover IRA combined with the required distributions starting at age 70 1/2, I am wondering if the 401(k) is the right way to go?

Any thoughts?
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Author: sunrayman Big funky green star, 20000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 74467 of 121341
Subject: Re: 401(k) vs. after-tax savings Date: 12/6/2004 10:18 PM
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. . . I am wondering if the 401(k) is the right way to go?



+++
+++


Is anybody else matching any portion of your inve$tment$?????

LOL
sunray

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Author: ptheland Big gold star, 5000 posts Feste Award Nominee! Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 74468 of 121341
Subject: Re: 401(k) vs. after-tax savings Date: 12/6/2004 10:33 PM
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To the extent you are getting matching funds from your employer, 401k contributions are a no-brainer. Just do it. It's free money.

After that amount, your thinking is just fine. You can't just assume that tax-deferred retirement contributions are the right thing to do. You'll need to look at your own situation to decide how much in tax-deferred retirement vehicles is right for you.

You also don't want to be so afraid of taxable income in retirement that you end up with nearly none. Granted, things can and will change between now and your retirement, but odds are there will be some income that is essentially free of income taxes. And there will probably still be graduated tax rates.

So in retirement, you really want to have some taxable income. Tax deferred retirement plans (like a 401k) are just one source of taxable income. What sources of taxable (and non-taxable) income you have in retirement, and how much of each, is something you will need to address in your retirement plan.

--Peter

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Author: Tiddman Big gold star, 5000 posts Feste Award Nominee! Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 74500 of 121341
Subject: Re: 401(k) vs. after-tax savings Date: 12/7/2004 2:19 PM
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This question came up recently.

http://boards.fool.com/Message.asp?mid=21386470&sort=whole#21388767

The important variables are your tax rate now and your tax rate at retirement.

Say that your marginal rate is now 28%, so each dollar that you put into an after-tax account results in a net contribution of $0.72. Assuming that the long term cap gains tax rate is 15% when you retire, you'll lose another $0.15 on the dollar to taxes when you sell the investment.

Compare that to a tax-deferred vehicle such as a 401(k). You don't pay any tax on your contribution now. When you withdraw it, you pay tax at your marginal rate at retirement. Just for the sake of argument, say that is also 28%.

The difference is obvious. You pay 28% tax now and another 15% later with an after-tax account, and with a tax-deferred account, you only pay the 28% at retirement.

To use some numbers, say that you are 20 years from retirement and your investments will grow at 10% per year.

Contribute $1 to an after-tax vehicle, which after taxes is $0.72. This will grow to $4.84. Take 15% for cap gains tax and you're left with $4.12.

Contribute $1 to a tax-deferred vehicle. That will grow to $6.73. Take 28% for income tax at retirement and you're left with $4.84.

This simplistic analysis doesn't account for things like dividends, which would decrease your after-tax returns somewhat due to the tax paid on dividends.

This is "just the numbers", and isn't the only factor to consider. For example you might be planning on retiring early, in which case having more after-tax money might be important, or you might have other uses in mind for after-tax money, such as buying a retirement home, etc.

Generally speaking though, it's rarely advantageous to not take advantage of the tax deferred programs that are available to you.

T


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Author: ptheland Big gold star, 5000 posts Feste Award Nominee! Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 74503 of 121341
Subject: Re: 401(k) vs. after-tax savings Date: 12/7/2004 3:57 PM
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Contribute $1 to an after-tax vehicle, which after taxes is $0.72. This will grow to $4.84. Take 15% for cap gains tax and you're left with $4.12.

Just a very minor nit to pick - which just changes the magnitude of the result.

The second tax - 15% for cap gains - is only on the growth, and not on the entire amount. So the tax would be 15% of 4.84 less the original .72 or $0.62. That leaves a net of 4.22 rather than 4.12. Which is still less than 4.84.

--Peter <== still scratching his head.

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Author: Tiddman Big gold star, 5000 posts Feste Award Nominee! Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 74504 of 121341
Subject: Re: 401(k) vs. after-tax savings Date: 12/7/2004 4:03 PM
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15% for cap gains - is only on the growth, and not on the entire amount.

You're absolutely right, sorry about that.

T


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Author: IndecisiveFool Big funky green star, 20000 posts Top Favorite Fools Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 74521 of 121341
Subject: Re: 401(k) vs. after-tax savings Date: 12/8/2004 4:49 PM
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Generally speaking though, it's rarely advantageous to not take advantage of the tax deferred programs that are available to you.

I don't see many advantages to a non-deductible traditional IRA.

IF



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Author: Wradical Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 74522 of 121341
Subject: Re: 401(k) vs. after-tax savings Date: 12/8/2004 5:20 PM
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(IF:)I don't see many advantages to a non-deductible traditional IRA.

Me either. For the tax deferral, with more flexibility, consider a low-cost universal life policy that lets you invest in a fund you like. In fact the fund family might just have such a vehicle.

Bill




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Author: IndecisiveFool Big funky green star, 20000 posts Top Favorite Fools Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 74523 of 121341
Subject: Re: 401(k) vs. after-tax savings Date: 12/8/2004 5:38 PM
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Me either. For the tax deferral, with more flexibility, consider a low-cost universal life policy that lets you invest in a fund you like. In fact the fund family might just have such a vehicle.

Ack!!! You mentioned universal life. No thank you.

IF


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Author: acm4tax Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 74530 of 121341
Subject: Re: 401(k) vs. after-tax savings Date: 12/9/2004 12:22 AM
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I don't see many advantages to a non-deductible traditional IRA.

Me neither, especially if you're not keeping track of how much of your traditional IRA was already taxed. If you don't keep track of your basis, when you withdraw it, you could end up paying tax on it a second time.

Also when you die, if your heirs have no idea how much was pretaxed, your heirs will pay tax unnecessarily a second time on money you've already paid tax on.

My advice: 1) Invest in 401K's to the extent your employer matches your contributions.

2) If you qualify, make the max contribution into the ROTH

3) If you're in a 28% bracket or higher now, and expect to be in a lower bracket when you retire, contribute as much as you can into the 401K.

4) Make other investments in growth type investments that do not pay, or pay minimal, dividends or capital gains now, so you only have to pay capital gain rates when you do start withdrawals.

5) Generally I am opposed to annuities, but I do believe they might have a place for part of your portfolio, as the growth within is tax deferred until you begin withdrawals.

6) And I like term life insurance as opposed to universal life. Buy term, invest the difference yourself instead of buying universal life.

In all the advice I've ever seen about investing, I rarely see anything on keeping a certain sum in liquid savings accounts for emergencies or aniticipated expenses. I suppose that goes without saying. And I know that one should get credit card debt down as well. But you didn't ask about budgeting, you just asked about investing in traditional IRA's. There's such a big picture that needs to be looked at here. And everyone's situation is very different.

Arleen

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Author: Wradical Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 74533 of 121341
Subject: Re: 401(k) vs. after-tax savings Date: 12/9/2004 10:06 AM
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(Arleen:)..Generally I am opposed to annuities, but I do believe they might have a place for part of your portfolio, as the growth within is tax deferred until you begin withdrawals.

...And I like term life insurance as opposed to universal life. Buy term, invest the difference yourself instead of buying universal life.

__________________________

They aren't the easiest things to compare, against similar products, let alone against each other.

But I think that many tax-deferred annuities often have higher up-front
commissions and other policy costs than a group variable universal life policy, which I do have.

Since we're talking about the specific case of someone who had contributed all he could do with his 401k plan, and couldn't contribute to a Roth, both a TDA or a GUVL vehicle MIGHT be considered.

I have a GUVL policy through the AICPA Insurance Trust. As with the oft-cited advice to "buy term and invest the difference", you're basically doing both. My minimum premium is the same as the term premium from my previous policy, which I converted. [Note that term insurance gets rather expensive as you get older, along with health underwriting if you want to increase the amounts.] The excess amounts I contribute go into a couple of mutual funds, from their menu of about 8-10. The basic insurance amount is through Prudential and the side fund is run by AON securities, whose cut must be built into the return on the funds.

I chose this vehicle for pretty much the same reasons as the original poster. And,if you do need to access the funds, with a GUVL policy it would be in the form of a policy loan; but that's still less costly than early surrender charges from an annuity. And I'd rather do that than borrow from a 401k, which I think is about the last thing anyone should do. And an early withdrawal from a nondeductible IRA still is subject to both income taxes and penalty on the earnings.

Bill





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