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This year, my husband now has access to a Roth 401k.

We're both 44 years old. We currently fully fund his regular 401k, and it is typically matched 15% at the end of the year. Right now, he grosses $3500 every two weeks. After deductions and $840 into his 401k, he nets about $2100. We typically get about $2000 back on our federal income taxes because of the child tax credit (2 kids). We also take the standard deduction, so I'm thinking the new tax laws won't affect us much.

I work three days a week (substitute teacher) but don't make much. I need service credit towards my pension, and I'm able to do this while my kids are at school.

My concern about the Roth 401k is that we will essentially be putting more money into our retirement accounts to the detriment of our current net income.

We currently have about $750k in his 401k, about $250k in Roth IRAs, about $60k in a rollover IRA, and about $580k in an ESOP. Our house is paid off and our only debt is an $18000 loan from my dad for a car we just bought.

Our 13-year-old starts high school next year which will increase our yearly tuition costs from $10k to $18k.

I'm not a budgeter. We contribute heavily to our retirement accounts, have paid off our house, and live within our means. In our earlier years, we were really frugal. Now, I like to live a bit freer.

My dad suggests that we do the Roth 401k but decrease our contribution a bit. Aside from waiting on his first paycheck of the year, is there a calculator that I could use to estimate his net paycheck if we elect to do the Roth?

After writing all of this down, I'm leaning towards the Roth.

Any words of advice?

Thanks!
Monica
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Monica

At what I expect your total household income is, your top federal income tax rate is 15% + 6.2% for social security. So the difference in tax liability (not including state income taxes) is roughly $212 for each $1000 put into the Roth 401k rather than the traditional 401k.

Check the calculator here to see what the tax cut does for your family: https://taxfoundation.org/2018-tax-reform-calculator/

So the questions I have would be this:

Is the employer match on the entire amount contributed to the 401k or is it capped? That might influence my thinking a little bit.

Does the 401k allow for an in service rollover of the employer match into the Roth 401k?

Does the 401k plan allow for adjusting the relative contribution between the traditional 401k or Roth 401k during the year?

What I personally have done is slowly ramp up 401k contributions and proportionally decrease traditional contributions. This has kept take home pay fairly consistent over the past 2 years or so and increased the Roth pretty substantially. I'm looking into a rollover of pretax amounts into the Roth 401k, and will likely do that next year.
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At what I expect your total household income is, your top federal income tax rate is 15% + 6.2% for social security. So the difference in tax liability (not including state income taxes) is roughly $212 for each $1000 put into the Roth 401k rather than the traditional 401k.

Sorry, that's incorrect. Both Traditional and Roth 401(k) contributions are subject to the 6.2% SS tax (as well as the 1.45% Medicare tax), so you don't need to adjust for that. By contributing to the Roth instead of the pre-tax account, the OP's husband's income would put them right at the border of the 12%/22% bracket for MFJ after taking the standard deduction into account. So basically, what's going to happen is that whatever income the OP makes will effectively be taxed at 22%. If the husband were to max out the Traditional 401(k) and the OP makes less than $19k allowable Roth 401(k) contribution for 2019, her income would all be taxed at 12%. If the husband contributes to the Roth, all of the OP's income will be taxed at 22%.

To the OP: With 26 paychecks/year (paid every 2 weeks), to make $19000 in contributions, your husband would need to contribute $731 every each paycheck (about a 21% contribution rate). Adding in taxes at 12%, that would mean $840 impact to your husband's paycheck every 2 weeks.

If he was contributing $840 pre-tax every 2 weeks in 2018, he would have maxed out his 401(k) at $18,500 in 23 paychecks - so you should have 3 paychecks at the end of the year without having deductions for the 401(k) contribution. You can have the essentially the same net income by contributing to the Roth, except you won't have those 3 larger paychecks at the end of the year. So if you are using that to, say, pay for the holidays, you might want to consider up the Roth contribution from $731/paycheck to $840/check (a 24% rate). That will still give you 3 paychecks at the end of the year without any 401(k) contributions. It will decrease your net income by $95 every 2 weeks, compared to his current contribution of $840 every 2 weeks to the Traditional 401(k).

Because of the tax impact on your income, if you still want a large refund, you might want to change your withholding to Single, zero. But if you don't mind getting smaller/no refund, as long as you make $20k or less/year, you should be okay.

AJ
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AJ

Thanks for the correction on my math. It may be meaningful to the OP to contribute some to the traditional 401k and the remainder to the Roth 401k to balance taxable income and avoid the 22% tax bracket.

Also, if unclear from my earlier post, depending on how the employers contribution is calculated, OP may be better off ensuring they capture the match.
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Thanks for the correction on my math. It may be meaningful to the OP to contribute some to the traditional 401k and the remainder to the Roth 401k to balance taxable income and avoid the 22% tax bracket.

Well, a lot of it depends on what the OP earns. Since the OP said I "don't make much" - that leaves it wide open.

If the OP earns more than $19k, they are going to have some income in the 22% bracket, even if the husband contributes all $19k to the pre-tax account. Then, the 22% bracket will be unavoidable.

If the OP will earn less than $19k, then they could contribute up to ($19k minus the OP's income) to the Roth without hitting the 22% bracket. But then, if the husband gets a raise or a bonus, it will push some income into the 22% bracket.

That said, since under current tax law, the rates are scheduled to go back up to the previous rates in 2026, putting money into a Roth account at 22% may not seem like that bad of a deal. Besides, at age 44, already with $1.68MM in liquid assets and, since most ESOPs are pre-tax, having 85% of their assets in pre-tax accounts, and only 15% in Roth accounts, they probably aren't going to be in a low tax bracket when they hit RMD age, so putting more money in the Roth account, even at 22%, is likely to end up being a good deal.

Again, to the OP: Having over 1/3 of your liquid assets in your husband's employer's stock is a pretty big risk, looking at what has happened to companies like Enron or, more recently, GE. If some of the stock can be sold, you may want to consider doing that - especially if you can sell specific lots with a higher cost basis. Then, if your husband has a relatively low basis in that stock, I would strongly urge that when he leaves the company that you look at using the NUA treatment, even if he's under 59 1/2. While you would pay a 10% penalty on the basis, and you may have to sell some of the stock to cover the tax bill, it would do 2 things for you:

- Get some of the money out of the traditional accounts and into a taxable account with a relatively low cost in taxes (this would work especially well if your husband leaves the company in time to move the money out of the ESOP under the current tax law)

- Get the money into an account that you would have more control over when and at what price to sell, since ESOPs often have some constraints on selling

Here is an article that gives a pretty good explanation of the NUA rules: https://www.kitces.com/blog/net-unrealized-appreciation-irs-...

Also, if unclear from my earlier post, depending on how the employers contribution is calculated, OP may be better off ensuring they capture the match.

Yes, it's always important to capture as much match as possible. However, since the OP said in the original post We currently fully fund his regular 401k, and it is typically matched 15% at the end of the year, it doesn't appear that the timing is a big deal on the match. But if the company does match based on 15% of what was contributed, rather than, say 100% of the first 15% of the salary, it would be important to make the whole $19k contribution for 2019.

AJ
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Thank you for all of the great responses!

Answers to some questions:

The match occurs at the end of the year based on his total contribution. So if we reduced contribution, the match would be reduced as well.

I will make about $11k this year and approximately the same next year. (I bought 5 years when I was working from 1999-2005. My 5 years only counts if I put in an actual 10 years. And by getting an actual 10 years in, we will be eligible for health care in retirement. I don't have the time or energy to work as a full-time teacher right now. The money would obviously be much better, but I don't think the stress would be worth it.)

The ESOP was a benefit added when they took away the pension. DH gets employer stock at the end of each year (not a publicly owned company) based on his years of service and salary. Each fall, we can rollover a certain percentage. This year it's 8% (but might be reduced based on total redemptions). I have to request the rollover shortly. When he leaves the company, the stock price will be locked in, and he can roll it over to an IRA and it will be given within five years depending on how you leave the company.

It didn't occur to me that it didn't have to be an all or nothing decision. I like the idea of maybe doing half regular and half Roth. He typically gets a bit of a raise each April, so that might absorb some of the net pay loss.

DH thinks we can switch contributions during the year. So maybe if we started 100% Roth and missed the income too much, we could change it.

I do like those bonus paychecks at the end of the year - but if we reduced the amount deducted each pay period, we could do without those and lessen the impact of the Roth.

Thank you for all of the great information!

Monica
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I will make about $11k this year and approximately the same next year. (I bought 5 years when I was working from 1999-2005. My 5 years only counts if I put in an actual 10 years. And by getting an actual 10 years in, we will be eligible for health care in retirement.

Presumably, you would also be eligible for some type of pension, in addition to health care?

The ESOP was a benefit added when they took away the pension. DH gets employer stock at the end of each year (not a publicly owned company) based on his years of service and salary. Each fall, we can rollover a certain percentage. This year it's 8% (but might be reduced based on total redemptions). I have to request the rollover shortly. When he leaves the company, the stock price will be locked in, and he can roll it over to an IRA and it will be given within five years depending on how you leave the company.

Since it's not a publicly owned company, he's probably not going to be able to use the NUA process - the company has to be publicly owned. There are some questions and comments at the end of the Kitces article about people with private company stock. That said, it's always going to be a good option to keep in mind if the company goes public before he rolls it to an IRA.

It didn't occur to me that it didn't have to be an all or nothing decision. I like the idea of maybe doing half regular and half Roth.

Given the additional information you've shared about the company being private, and therefore, pretty much locking in the ESOP to a traditional account, I'd suggest going all Roth, if you can stand the net income loss. Just given your current balances in Traditional accounts (no additions) and a 6% growth rate, you are looking at a $230k initial RMDs when you hit 70 1/2. And that's not including your potential pension, SS, or, as already pointed out, any additions to his ESOP and 401(k). Here's an RMD calculator you can play with if you want to make different assumptions: https://personal.vanguard.com/us/insights/retirement/estimat...

Projecting taxes in the future is always a crapshoot, since, as we have seen recently, Congress can change the law at any time, but under current tax law (which has changed the inflation rate for things like standard deductions and the brackets to the chained CPI), we can probably expect a 2.5% increase for the brackets/. Under current tax law, where the rules revert to the old rules in 2026, and making a really broad assumption that your SS and pensions would eat up the standard deduction and exemptions allowed, that RMD would put you well into the 28% bracket. If the new rules/rates become permanent, you would be well into the 24% bracket. And assuming that, at some point, one of you will be filing singly, the single filer will likely be in one of the top 2 brackets.

In any of those cases, putting money into a Roth account now, even at 22%, would be a savings. You would have to be putting money in at 24% before it might just be a wash.

AJ
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Completely agree with AJ on this - based on the ESOP conditions, go Roth in the 401k if you can afford it.

On the health care in retirement side from your teaching pension, you may want to look into how that is structured. For example, Texas recently sharply increased the amount retired teachers had to pay in to keep health insurance. That may simply be an effect of how we handle education funding in Texas, but if its a big benefit you are counting on, take some time to look into how your state handles it, and if its subject to the whim of a legislature.
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