Roth vs Traditional

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Matthew19
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Roth vs Traditional

Post by Matthew19 » Wed Jul 01, 2015 10:19 am

Iv always been told that a Roth option was a no brainer for retirement accounts. Then I reward this forum and heard otherwise. I understand that it is situation defendant, but can anyone point me to a definitive read on the topic, in this forum or otherwise? This bankrate calculator seems to put a traditional account ahead : http://www.bankrate.com/calculators/ret ... lator.aspx
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Re: Roth vs Traditional

Post by MachineGhost » Wed Jul 01, 2015 10:24 am

It only makes sense if you expect your future marginal taxes to be higher in retirement or you want to avoid the MRD rules.
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Re: Roth vs Traditional

Post by mathjak107 » Wed Jul 01, 2015 10:32 am

the optimal combo is going to be unique to you , your tax brackets , age and type of job.

if you are young and like most americans who start out in very low tax brackets ,a roth is a clear winner. it may take decades to ramp up in pay to reach your final years brackets.

that average tax rate will likely be very low since most years will be at lower brackets ramping up.

as you reach the higher brackets a traditional deductible will be best.

but some careers like doctors ,lawyers etc start out in high brackets. my son was earning what I do his first year out of law school and I worked 40 years to get there.

for him a roth may not pay. there isn't a whole lot of ramping up to top brackets he can do over decades. he is already almost there since his wife is a cpa so together they have a very high income.

on the other end we have low end jobs and folks who will never leave those lower end jobs. they too will do little ramping up through the tax brackets.

over all the 10% at the top who contribute and 10% at the bottom who contribute may be better with the deductible account. the other 80% seem to follow the long ramp up over decades and a roth will be best if they are young.

this is why no one can answer that question for you. you also have to see how it meshes with your rmd's , social security , medicare surcharge taxes and what you will be doing with that rmd money.

roths have no rmd's so money and gains stay tax free forever. traditional accounts have that money you reinvest in a taxable account taxed forever. a powerful plus for a roth.
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Re: Roth vs Traditional

Post by Stewardship » Wed Jul 01, 2015 1:52 pm

Agreed with above.

Not to complicate things further, but I'd add there are also situations where it makes sense to start out with a traditional IRA and then later do roth conversions.  This could enable you to defer taxes to lower income years and unlock savings before 59 1/2 so you can do things like retire early.  8)
In a world of ever-increasing financial intangibility and government imposition, I tend to expect otherwise.
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Re: Roth vs Traditional

Post by stuper1 » Wed Jul 01, 2015 2:09 pm

Another thing to keep in mind is that a Roth can act as an emergency fund also, because you are allowed to withdraw your contributions without penalty at any time.  Of course, you don't want to make a habit of that with money that is meant to be saved up for retirement, but you may be able to make good use of that as part of your overall financial planning.  Personally, some of my emergency fund is kept as cash in my Roth IRA and is counted as cash in my PP.
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Re: Roth vs Traditional

Post by mathjak107 » Wed Jul 01, 2015 2:14 pm

the mistake folks make is they look at their final years income and think oh I will be in a lower bracket at retirement with no checks.

but what they are missing is it isn't about your final years tax bracket at all. it is about your average bracket over possibly 40 years of working.

most will find their bracket at retirement is ACTUALLY HIGHER THAN THEIR LONG TERM AVERAGE
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Re: Roth vs Traditional

Post by Tortoise » Wed Jul 01, 2015 3:12 pm

I haven't seen a "definitive read" on the traditional vs. Roth issue, because everyone has a slightly different opinion on the matter. There's current vs. predicted future tax rates, current vs. predicted future income, rules on borrowing, and even the possibility that future civil unrest may cause the government to significantly alter the tax rules for traditional and/or Roth accounts somewhere along the way. So the crystal ball is hazy.

If, like me, you're hesitant to attempt predicting the future, a reasonable option is to hedge your bets and split your retirement savings between both traditional and Roth accounts. Doesn't need to be a 50/50 split; whatever percentage you pick, the key is that you won't be putting all of your eggs in one basket as far as traditional vs. Roth goes.
Last edited by Tortoise on Wed Jul 01, 2015 11:08 pm, edited 1 time in total.
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Re: Roth vs Traditional

Post by mathjak107 » Wed Jul 01, 2015 3:20 pm

the big wild card is if having all roths would keep your ss from being taxed.

that is a huge plus.

I am retiring july 30th and I am so sorry now I didn't do roths  instead. I always believed that I would not be in a higher bracket with no pay check or that taxes would only go up..

but the real benefit is pulling a 6 figure income from roths and taxable account investments at zero capital gains rates , getting a medical subsidy , and not getting our ss taxed.

tax brackets do not have to budge for that combo to play out a huge winner.
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Re: Roth vs Traditional

Post by Matthew19 » Wed Jul 01, 2015 9:50 pm

I'm in a situation where I could most likely retire by age 38. I'm currently making over 6 figures in my LLC So taxes kind of suck right now.
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Re: Roth vs Traditional

Post by mathjak107 » Sat Jul 04, 2015 4:13 am

MachineGhost wrote: It only makes sense if you expect your future marginal taxes to be higher in retirement or you want to avoid the MRD rules.
this is the  tiniest reason ,  -whether tax rates go up.

even if tax rates were the same or even went up a bit you would be as much as 20% further a head with spendable cash in the roth.

just for the reasons i mentioned in a thread above . which is our long term average tax rates , which can ramp up over 40 years will likely be lower than our final tax rates in retirement which tend to be based around  your final years income.


unless you had a no growth job or a high income job early on most of us will have average tax rates that are much lower over our working careers than just those final years..


many of us will be in a higher tax bracket at retirement then our long term average bracket was .

don't forget you are contributing to retirement , deducting dependents , may be a mortgage through those working years too.

t.rowe looked at this rampping up effect in a white paper and found it can be very difficult to beat a roth for that reason alone.

once you add all the other perks of a roth it gets even more difficult .


don't forget the combo of rmd's and social security can not only get you in a higher bracket but get your  social security taxed where it may not have been.  there are now medicare surcharges to deal with too if your rmd's plus income are over certain thresholds.  they can be quite painful.

those rmd's you pull it out will have gains taxed forever if reinvested where the roth will never have those gains taxed.


one other very important point and few realize this.

the way social  security is taxed can create insane marginal rates because you have 2 moving targets.

you can  be just over the limit of having your ss taxed , take a mere 1k more  out of a taxable ira and lose 1/2 of that to taxes.


i will be happy to go over that if anyone wants but it is a huge trap that effects those with lower retirement incomes that may go a smidgen  over the limits for not getting ss taxed.

the effective marginal tax rates  very sneakily become outrageous .

hope this opens some eyes that roths are just not about increases in tax rates.  there is a whole lot more riding on your taxable income if rates do not even rise.

roths , traditional and taxable accounts all come in to play when structuring a retirement income plan.

whether to delay ss or not introduces a new set of parameters as well which like everything pertaining to retirement planning i can talk about all day.

i was thinking of entering the financial planning business in retirement catering to baby boomers  since i enjoy learning about it. but i realized that it can take some pretty long  hours  at the office.

not something i want to do in retirement. so instead i just pass along for free all the thoughts and ideas i steal  from those a lot smarter than i am to you all.
Last edited by mathjak107 on Sat Jul 04, 2015 5:13 am, edited 1 time in total.
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Re: Roth vs Traditional

Post by mathjak107 » Sat Jul 04, 2015 5:00 am

of course the big question many have is how do i deal with fact i did not do roths.

there is no easy answer as each situation is unique to only you.

for some delaying social security may be a good answer .    a retired couple can pull 22k a year tax free out of a taxable ira  and up to 42k and pay as little as a bit over 4% tax on it.  delaying for 8 years can get rid of quite a bit of dough .

of course the flip side is will it be worth delaying ss and spending those invested assets down to live as well as giving up all those checks.


just figuring a 6% return for a balanced portfolio , plus the checks given up can push break even out 22 years.

throw in the fact your spouse may not get part of yours added to her benefit until you file and you can be looking at 23-24 years to just break even.

also what will that almost 2x larger ss check do to your taxes when combined with what is left  and subject to rmd's.


another little know fact is if you delay you are not protected under the hold harmless medicare laws.

while if you collect your medicare  payments can never go up more than the cola  that is not true if you delay and increases are limitless.

another ploy may be using life insurance  to convert forever taxable assets in to never taxable assets.

if i leave my wife my million dollar ira she has no clue what she will get to keep since rmd's will be applied to it.

but if i take just a part of that ira i can buy a leveraged single premium policy for less than the policy will pay.

i can leave my wife 1 million tax free dollars instead and whatever is left in the ira the  kids can inherit and they get to pay the taxes over their lifetime .

there are quite a few ways of dealing with the ira's but every thing is case by case.
Last edited by mathjak107 on Sat Jul 04, 2015 5:02 am, edited 1 time in total.
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Re: Roth vs Traditional

Post by Dieter » Sat Jul 04, 2015 12:19 pm

I like having both, but do have more in traditional vehicles than Roth. While I expect I have a lower effective tax rate now, deduction now from traditional allows us to save more...

New money's goes into traditional 401(k) & Roth IRAs.
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Re: Roth vs Traditional

Post by mathjak107 » Sat Jul 04, 2015 12:22 pm

for most of my career roths did not exist.

but now that i am retring i regret taking the deductions all these years when i could have done them.

as i wrote above so much rides on your taxable  retirement income that you can get hammered for longer in retirement tax wise than you even spent working.

had i known back then all the things that would come back to bite me  i would have done a few things differently

i would have had a nice mix of roths and traditional.  today i would have pulled 22k out of the traditional  and paid zero tax .  i would have added lots of tax free roth income , delayed social security and over funded my life insurance policy early on.

any money you over fund can have no expenses , no commissions charged and you can borrow out the money and the interest tax free and never pay it back.  just do not exceed how much you over contribute or the irs considers it not life insurance but a modified endowment policy.

that would let me be in the zero capital gain brackets so i can add more income from equities held in the taxable account .


then i would qualify for maximum subsidy on my health insurance since i am not of medicare age.


that can be a 6 figure tax free income if done right plus a major reduction in insurance which by the way will run 6200 a year on cobra just for myself, medicare and medigap is another 6k in our area , since my wife is older she will be starting medicare .

remember , your fair share of taxes is whatever you can figure out you legally have to pay.



  .
Last edited by mathjak107 on Sat Jul 04, 2015 12:41 pm, edited 1 time in total.
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Re: Roth vs Traditional

Post by mathjak107 » Sat Jul 04, 2015 4:35 pm

one point i wanted to bring up since i just read it in craigs book  too is , there is this old school belief that  assets  like cash and bonds should fill deferred accounts first since they  get no special tax treatment  like equities do.

the problem is no one actually did the leg work to run the numbers and it isn't as simple of an answer as stated..


more often than not on long term investments that belief is false.  (sorry craig )


recent work by famed retirement researcher  michael kitces shows as little as a 1 or 2% dividend or rebalancing  blows that whole belief out of the water.

here is what michaels findings were :


The bottom line, though, is simply this: the idea that the preferred asset location of equities is “always” a brokerage account to take advantage of favorable long-term capital gains rates, while tax-inefficient bonds would be placed in an IRA, is not always correct. In reality, the outcomes are sensitive not only to the expected returns and the tax-efficiency of the investments, but also to the time period for investing. And over multi-decade time horizons (and with IRAs that can be stretched, the time horizon could be multi-generational!) the benefits of tax-deferred compounding growth can outweigh the tax rate differential. In fact, with almost any level of turnover, stocks perform better in the long run in an IRA, and especially when there is a substantial dividend and/or any level of turnover (which could be triggered by rebalancing alone!).

perhaps this fact is important enough because of the rebalancing to make this its own thread since most folks still believe the old way to be true.


you can read michaels findings here

https://www.kitces.com/blog/asset-locat ... e-horizon/
Last edited by mathjak107 on Sat Jul 04, 2015 5:02 pm, edited 1 time in total.
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