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Author: brettrkr Big red star, 1000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: of 76397  
Subject: Roth IRA or 401K? Date: 3/31/2004 1:20 PM
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I will have about $10000 (based on income) for the next 3 years or so to contribute in a retirement account. There are two scenarios for me to choose from:

1. Max out a Roth IRA at $3000/yr and put the other $7000 in a 401k.
2. Contribute the full $10000 to the 401k.

*Consider that 401k matching will not occur for another two years (new job).

Which is best and why?

Additional scenarios are welcome.

Thanks,
Brett
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Author: yobria Big red star, 1000 posts Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 40107 of 76397
Subject: Re: Roth IRA or 401K? Date: 3/31/2004 2:07 PM
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The answer is 1), but it isn't a fair comparison, since 1) includes $3K of after tax money, while everything in 2) is pretax.

If you equalize the amounts for taxes, then it doesn't matter, assuming your tax rate will not change at retirement, and your 401k offers competitive investment choices, there's not matching, and the timing of each option would be the same.

Nick

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Author: pauleckler 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: 40108 of 76397
Subject: Re: Roth IRA or 401K? Date: 3/31/2004 2:15 PM
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If the 401K contribution is pretax, and your income tax rates are identical now to what they will be when you take distributions in retirement, then the 401K and the Roth are identical in terms of their value to you in retirement.

If your tax rate is low now and you expect it to be high in retirement, then Roth IRA is a better deal. If your tax rate is high now and you expect it to be low in retirement, then 401K is a better deal.

However, other things being equal, the larger limits of the 401K makes it possible to invest in that plan sooner. That gives you more growth potential. So the 401K sooner is better.

A second consideration is fees on your Roth. Do you have an existing Roth? Or is it a new account you would pay annual fees for? Then maxing the 401K first is a better deal (assuming its a good one that your employer pays most fees for).

Both are good plans. You are splitting hairs. Either can be a good deal.

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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: 40109 of 76397
Subject: Re: Roth IRA or 401K? Date: 3/31/2004 2:15 PM
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If you equalize the amounts for taxes, then it doesn't matter, assuming your tax rate will not change at retirement, and your 401k offers competitive investment choices, there's not matching, and the timing of each option would be the same.

That's true.

Personally, I would fund the both accounts, not just the 401k. I would call it diversifying your potential tax liabilities. You don't know how the government will change income tax rates over time. Your calculation based on today's rates may become moot if the feds raise or lower income tax rates when you near retirement. Roth IRAs distributions which are tax-free today may not be so in the future.

For tax reasons, don't put all your eggs into one basket.

IF


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Author: SimpleGrunt One star, 50 posts Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 40110 of 76397
Subject: Re: Roth IRA or 401K? Date: 3/31/2004 2:19 PM
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First question is do you have the entire $10,000 right now and do not expect any more for the next three years or will you have an average of $3300 per year for the next three years?

Depending if your income situation allows you to take the tax credit for a Roth deduction (my wife and I took a $400 credit on 2003 taxes), that coupled with the fact that the Roth grows tax free and you get no "free money" from the 401k for the next two years leads me to recommend this:

2004

$3000 in the Roth
$7000 in a separate trading account

2005

$3000 in the Roth
$4000 in the separate account

2006

$3000 in the Roth
remainder in 401k or trading account

This depends on what company you work for and what their 401k plan is. If you come out better in taxes and return on investment from contributing to the 401k even without the matching funds, do the 401k. If your company has a paltry return on its 401k investment options, you might be able to do better managing your initial $7000 yourself even with the tax savings.

I don't get matching funds for my 401k and my tax savings is less than the returns I get from managing the money myself.

Regardless, max the Roth every year.

DF

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Author: yobria Big red star, 1000 posts Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 40120 of 76397
Subject: Re: Roth IRA or 401K? Date: 3/31/2004 5:18 PM
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Personally, I would fund the both accounts, not just the 401k. I would call it diversifying your potential tax liabilities. You don't know how the government will change income tax rates over time.

Yes, remember you can always "diversify" later (within income limitations) by rolling your 401k to a TIRA, then doing Roth conversions.

The strategy I'm using for my mother's portfolio involves converting enough TIRA money to a Roth to max out her current tax bracket, without moving her to the next one.

Of course, the key here is to pay the taxes with after tax money, so your Roth account balance is the same as the TIRA one, effectively increasing (since it's now after tax) your tax sheltered money.

Nick

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Author: 3muttsmom Big red star, 1000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 40158 of 76397
Subject: Re: Roth IRA or 401K? Date: 4/1/2004 8:31 PM
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Depending if your income situation allows you to take the tax credit for a Roth deduction (my wife and I took a $400 credit on 2003 taxes)

What is this referring to? I thought Roth contributions were after tax.

3MM

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Author: brettrkr Big red star, 1000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 40160 of 76397
Subject: Re: Roth IRA or 401K? Date: 4/1/2004 8:42 PM
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Depending if your income situation allows you to take the tax credit for a Roth deduction (my wife and I took a $400 credit on 2003 taxes)

I've never heard of this credit for a Roth. Where do I find more information on it?

A quantitative way to settle this is with a Roth/401k calculator. One that will calculate contributions to either or both accounts, take taxes into account, and matching if it applies. Does any one know where such an online calculator is?

Brett

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Author: yobria Big red star, 1000 posts Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 40175 of 76397
Subject: Re: Roth IRA or 401K? Date: 4/2/2004 1:04 AM
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A quantitative way to settle this is with a Roth/401k calculator. One that will calculate contributions to either or both accounts, take taxes into account, and matching if it applies. Does any one know where such an online calculator is?

You don't really need one...you don't know what your future tax rate will be. If you assume it's the same as now, the Roth and TIRA work out the same financially. If you assume your rate will be lower at retirement, the TIRA is better, and vice versa.

And always take matching offers.

Nick



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Author: brettrkr Big red star, 1000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 40185 of 76397
Subject: Re: Roth IRA or 401K? Date: 4/2/2004 9:16 AM
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What is a TIRA?

My tax rate will probably be higher in the future. I suppose that means the Roth is better.

Brett

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Author: JAFO31 Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 40191 of 76397
Subject: Re: Roth IRA or 401K? Date: 4/2/2004 10:26 AM
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brettrkr: "What is a TIRA?"

traditional IRA - the only kind that existed before the creation of the Roth IRA, and one in which all investments may have been with tax-free dollars or depending upon the circumstances, investment may have been made with after-tax dollars, in which case there is basis in the traditional IRA.

TIRA used to distinguish fem Roth IRA.

Regards, JAFO




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Author: Weitzhuis Three stars, 500 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 40230 of 76397
Subject: Re: Roth IRA or 401K? Date: 4/3/2004 11:36 PM
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It all depends on what you have in IRA's, Roth's and 401K's already. Also how far you think you are from retiring and your present salary, or more precisely, tax bracket.

The really short answer is 1, until matching kicks in. All else equal, the Roth allows you to have your money in it forever, as far as your life is concerned, and advantageous death rules to boot. Also you can play with the tax brackets a bit if you have a mix of Roth money and pretax money from which to draw from.

Also, it doesn't hurt to live in a state that considers IRA and 401K earnings as tax free.

- weitzhuis

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Author: brettrkr Big red star, 1000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 40244 of 76397
Subject: Re: Roth IRA or 401K? Date: 4/4/2004 1:45 PM
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It all depends on what you have in IRA's, Roth's and 401K's already. Also how far you think you are from retiring and your present salary, or more precisely, tax bracket.

I'm about 40 years from the date I want to retire. My tax bracket will be higher by the time I retire. I figure max out the Roth and contribute left overs to a 401k. BTW, I'm just starting. Roth has $3000 in it. 401k has nothing.

Also you can play with the tax brackets a bit if you have a mix of Roth money and pretax money from which to draw from.

Gives some examples of what you mean there.

Also, it doesn't hurt to live in a state that considers IRA and 401K earnings as tax free.

How do I find out which states do this?

Thanks,
Brett

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Author: aj485 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: 40245 of 76397
Subject: Re: Roth IRA or 401K? Date: 4/4/2004 2:25 PM
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Also, it doesn't hurt to live in a state that considers IRA and 401K earnings as tax free.

How do I find out which states do this?


Here is a list of states that have no income tax (yet - who knows what will happen in 30 years...). If there is no income tax, IRA and 401k withdrawals are not taxed, as they are considered income.

Alaska
Florida
Nevada
South Dakota
Texas
Washington
Wyoming

Also, two states (Tennessee and New Hampshire) tax only dividend and interest income. I don't know how these states consider IRA and 401k withdrawals - as ordinary income, or dividend/interest income, so you would need to check with those states.

I also saw information that Michigan has an exemption for 401k withdrawals - up to a certain amount per year is exempt from state income tax. I don't know if other states have this type of exemption.

HTH
AJ

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Author: SimpleGrunt One star, 50 posts Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 40354 of 76397
Subject: Re: Roth IRA or 401K? Date: 4/7/2004 3:49 PM
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Sorry it took so long to get back on this. The thread's probably dead, but here it goes.

Unless my tax software set me up for a big audit, you can take a tax credit for a Roth IRA contribution, depending on your income. The tax credit is based on your AGI and your Roth contribution. We came in under the income limits (I was deployed and getting tax free pay), maxed our 2003 contributions, and took the credit. Cut my tax bill quite nicely.

I think the max AGI to take a credit was $50,000 married, filing jointly.

Darren

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