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All Encompassing Investment and Financial Planning Thread for the Surly 99.5%


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On 1/4/2023 at 2:41 PM, BehoId, The Underminer! said:

My default answer would be no because my experience is that Fidelity's specialized stuff sucks ass.  I have 401k with them and just took the ordinary default thing they put my money in.  It's called Freedom Index 2045 Commingled Pool Class T.  After a few years of that, I looked at the performance and it was consistently worse than the S&P, but then when things fell apart over the last year, I had the same size drop as the S&P.  They offered a session where we could Q&A and I said "If I don't get the upside of the market, I assumed there must be some protection against the downside.  Why not? What is this mix?"  The answer was "we are very disciplined.  The people that do this have a lot of discipline.  So much discipline."  I said "waking up every day at 5 a.m. and burning a $100 bill takes a lot of discipline.  I'm not sure that's the same thing as good investing."

Anyway, I'm sure all plans are different, but mine has the ability to just select a SPY tracking one, so I did that after the above conversation.

It's because that batch of funds shouldn't be compared to the S&P 500.   That's about 65/35 equities to bonds, and bonds had a terrible year.  

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18 hours ago, Neonmoon said:

Always go with the lowest fee option. No one beats the market, and if they can, it’s not for long. 

If they’re trying to sell it, it’s because there are higher fees. 

It's not so much about "beating the market".  I've built portfolios that match the market over a 20 year time horizon, net of fees, but have have significantly lower volatility.  

It's about using the low fee options as the basis of the portfolio, and using some tactical management to smooth it out.  Injecting some managed futures and a put write/covered call strategy manager into a portfolio can do wonders for lowering volatility.

On 1/4/2023 at 2:15 PM, Celery Man said:

Fidelity trying to pitch me on an "SMA". which I guess just means... homebrew mutual fund with of 150-200 single stocks with Fidelity assistance on the tax harvesting and probably stock selection. And of course a fee, somewhere in the range of .5%. I'm almost certain that that's a no for me and if anything I'm going to go more towards boring ass no/low fee index funds but curious if y'all who pay more attention have thoughts.

Some SMA's will have 20-30 names tops.  Those are typically smaller, boutique firms who do great work but aren't plastered all over the FINnews networks all the time, because they're not gonna pay for the advertising.  

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On 1/4/2023 at 1:15 PM, Celery Man said:

Fidelity trying to pitch me on an "SMA". which I guess just means... homebrew mutual fund with of 150-200 single stocks with Fidelity assistance on the tax harvesting and probably stock selection. And of course a fee, somewhere in the range of .5%. I'm almost certain that that's a no for me and if anything I'm going to go more towards boring ass no/low fee index funds but curious if y'all who pay more attention have thoughts.

If you’re interested in that sort of thing, check out wealthfront, betterment, or any other number of robo investors. I don’t have all my money in wealthfront but I have a healthy little chunk and they do tax loss harvesting as well as single stock investing once you get above a certain threshold. It’s basically a after tax 401k with active management. The fee is .25%, so automatically half of .5%. 
most of my money is with fidelity and they always ask me to consolidate my wealthfront account into fidelity, when I am perfectly happy. Have had my account there since 2015 and while it’s not a world beater it’s doing just fine as part of a get rich slow scheme. 

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Can someone explain a backdoor Roth strategy to me? I'm in my 50s and fully fund my 401k and catchup contributions at work.

I also have an IRA and Roth IRA with Merrill. Rollover from a former job.

Can I just contribute after-tax dollars to the IRA and then immediately transfer them over to the Roth IRA? Are there income or other restrictions? 

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With my company, I increase my after tax contributions to my 401k, then I call fidelity every so often and ask them to move the after tax contributions from my 401k into my Roth IRA. You can contribute up to 61k between your company match and your pre tax and after tax contributions.  

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27 minutes ago, Johnny Chimpo said:

With my company, I increase my after tax contributions to my 401k, then I call fidelity every so often and ask them to move the after tax contributions from my 401k into my Roth IRA. You can contribute up to 61k between your company match and your pre tax and after tax contributions.  

That's only if your company plan allows for after tax contributions above the "maximum".  Many plans don't offer that right now.  But yes, that is a strategy.  

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Circling back to my post above regarding volatility...

1)Volatility and sequence of returns are the 2 main factors in whether or not you will have enough funds for retirement.  

2) The safe withdrawal rate now is somewhere around 2.4%.  So $24k off a million dollar nest egg to make sure you're not going to run out of money if you run into a bad return sequence or volatility situation. 

3) You can build a smaller portfolio and have higher income if you have non-market volatility buffers.  We usually suggest at least 2, and preferably 3 years worth of volatility buffer to draw upon from non-market assets (cash, cash value in life insurance, etc)  Having the volatility buffer allows you to stay fully invested in the equity market through retirement, and drawing the buffer cash during negative years (especially early in the retirement timeline).

4)You can stay fully invested in the equity markets and spend down your retirement savings if you have a 1:1 ratio of assets to asset insurance.  Basically, own enough permanent life insurance that you spend the assets you saved, and when you die, the insurance then replaces those assets for your family and legacy desires.  You will also create a much higher retirement income doing this, and it is more favorable tax-wise as well.  

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10 hours ago, Johnny Chimpo said:

With my company, I increase my after tax contributions to my 401k, then I call fidelity every so often and ask them to move the after tax contributions from my 401k into my Roth IRA. You can contribute up to 61k between your company match and your pre tax and after tax contributions.  

 

9 hours ago, Trey3216 said:

That's only if your company plan allows for after tax contributions above the "maximum".  Many plans don't offer that right now.  But yes, that is a strategy.  

My employer doesn’t allow that so I’m curious how or even if I can add a few thousand extra outside in an IRA when I’m already maxing out a 401k. I’m not looking for tax deferred.

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5 hours ago, Nice Guy Eddie said:

 

My employer doesn’t allow that so I’m curious how or even if I can add a few thousand extra outside in an IRA when I’m already maxing out a 401k. I’m not looking for tax deferred.

You’re allowed to contribute to both, but you will only get the deduction for the 401k max contribution, not the IRA.   

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On 1/6/2023 at 8:45 AM, Nice Guy Eddie said:

Can someone explain a backdoor Roth strategy to me? I'm in my 50s and fully fund my 401k and catchup contributions at work.

I also have an IRA and Roth IRA with Merrill. Rollover from a former job.

Can I just contribute after-tax dollars to the IRA and then immediately transfer them over to the Roth IRA? Are there income or other restrictions? 

https://www.whitecoatinvestor.com/backdoor-roth-ira-tutorial/

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On 1/6/2023 at 8:45 AM, Nice Guy Eddie said:

Can someone explain a backdoor Roth strategy to me? I'm in my 50s and fully fund my 401k and catchup contributions at work.

I also have an IRA and Roth IRA with Merrill. Rollover from a former job.

Can I just contribute after-tax dollars to the IRA and then immediately transfer them over to the Roth IRA? Are there income or other restrictions? 


Since you are fully funding your 401k I assume you do, but do you exceed the Roth income limits where you have to use the backdoor Roth?

 

One downside to the backdoor is the pro rata rule. Since you mentioned an existing IRA you will have to pay proportional taxes on the funds you move to your Roth. Let’s say you have $54,000 pretax in your IRA and invest another $6,000 after tax and move the $6,000 to a Roth. You’ll have to pay taxes on $5,400 on the conversion as pretax funds represent 90% of your total IRA balance. 

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4 minutes ago, Archer said:


Since you are fully funding your 401k I assume you do, but do you exceed the Roth income limits where you have to use the backdoor Roth?

 

One downside to the backdoor is the pro rata rule. Since you mentioned an existing IRA you will have to pay proportional taxes on the funds you move to your Roth. Let’s say you have $54,000 pretax in your IRA and invest another $6,000 after tax and move the $6,000 to a Roth. You’ll have to pay taxes on $5,400 on the conversion as pretax funds represent 90% of your total IRA balance. 

This is where it gets confusing to me and makes little sense. I contribute $6K in after tax funds, then in moving the $6K to the Roth, I have to pay the tax again? Makes no sense to me.

What if I create another IRA and Roth IRA with $0 in it? Then make these contributions.

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I have been contributing over company match for 401k for a couple of years and have a Roth that I also contribute to as well. Should I just contribute their max match and put that other money elsewhere? Financially dumb so apologies for basic ass questions but I am about 4k a year over what my company matches

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20 minutes ago, Nice Guy Eddie said:

This is where it gets confusing to me and makes little sense. I contribute $6K in after tax funds, then in moving the $6K to the Roth, I have to pay the tax again? Makes no sense to me.

What if I create another IRA and Roth IRA with $0 in it? Then make these contributions.

Yup. The IRS considers the funds blended and does not recognize that you can move just the $6,000 after tax that you just contributed. You will owe taxes on whatever percentage of pretax all of your IRAs represent. 
 

All of your IRA accounts are considered one big account by the IRS even if they are at different brokerages. If you have the ability to transfer from an IRA into your 401k that is one way to get rid of the old pretax funds so that you can transfer to a Roth without additional taxes. 

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Mega back door Roth conversions are really dependent on how your 401k is set up. The dollars are also subject to ADP/ACP nondiscrimination testing; so if your company has a lot of lower paid workers that aren’t contributining much there is pretty much a 0% chance your plan has this feature.

1. This has nothing to do with the $6,000 IRA to Roth IRA “back door” conversion


2. Depending on your company match (or lack of match) this feature would have allowed you to put an additional $40,500 in Roth dollars in your plan in 2022. Under 50 years old $61,000 was the cap, $20,500 was the contribution limit; so by doing a Roth in plan conversion you could potentially put another $40,500 into your plan in Roth dollars. 
 

3. There are lots of smart CPA’s, 401(k) administrators, and financial advisors that have no idea what the hell this feature is. 
 

This piece from Fidelity starting on page 4 does about the best job of describing how it works.

https://nb.fidelity.com/bin-public/070_NB_PreLogin_Pages/documents/tva_RothInPlanConversionGuide.pdf

 

I’ve helped a few clients add this feature to their plan in the last 18 months and it is a great benefit but there is a ton of confusion around it. My company also allows us to participate and I’ve helped about 30 colleagues get enrolled. 
 

If you have specific questions or want me to review your companies 401k info to see if it might be a candidate send me a PM. 

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20 minutes ago, Zepol87 said:

I have been contributing over company match for 401k for a couple of years and have a Roth that I also contribute to as well. Should I just contribute their max match and put that other money elsewhere? Financially dumb so apologies for basic ass questions but I am about 4k a year over what my company matches

Once you are past the company match 401k contributions are a bet on your future tax rates and your ability to be a diligent saver. 
 

If you expect to be in a lower tax bracket in retirement (most people are) put everything into your 401k now and pay lower taxes on it in the future. If you are not disciplined in moving money to investments investing extra in your 401k forces you to save.  If you expect a big inheritance or other income that will increase your tax rate in the future or just expect tax rates to go up (they will in 2026) investing in a Roth or normal Brokerage account could be better than your 401k. 

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27 minutes ago, Zepol87 said:

I have been contributing over company match for 401k for a couple of years and have a Roth that I also contribute to as well. Should I just contribute their max match and put that other money elsewhere? Financially dumb so apologies for basic ass questions but I am about 4k a year over what my company matches

If your 401k give you access to low expense ratio index funds, and your emergency fund is where you want it, I’d probably just carry on exceeding the match. You can maximize your emergency fund by putting it into I-bonds, treasury bills, CDs, etc, every month that lock it up for a year at a time. Or hell, fidelity, vanguard, etc offer 4% yields in money markets right now. 

 

27 minutes ago, Archer said:

Once you are past the company match 401k contributions are a bet on your future tax rates and your ability to be a diligent saver. 
 

If you expect to be in a lower tax bracket in retirement (most people are) put everything into your 401k now and pay lower taxes on it in the future. If you are not disciplined in moving money to investments investing extra in your 401k forces you to save.  If you expect a big inheritance or other income that will increase your tax rate in the future or just expect tax rates to go up (they will in 2026) investing in a Roth or normal Brokerage account could be better than your 401k. 

Assuming a long time horizon and stock market growth remotely sniffing historical averages, even if tax laws stay the same, wouldn’t you want to do predominantly Roth contributions to your 401(k) regardless of your current/future tax brackets? With access to a Roth 401(k), wouldn’t the only reason to use your individual Roth IRA be if the employee 401(k) investment options had excessive expense ratios? (Or if you maxed out your 401(k) contributions and some how qualified to make Roth IRA contributions)

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44 minutes ago, B00M said:

 

Assuming a long time horizon and stock market growth remotely sniffing historical averages, even if tax laws stay the same, wouldn’t you want to do predominantly Roth contributions to your 401(k) regardless of your current/future tax brackets? With access to a Roth 401(k), wouldn’t the only reason to use your individual Roth IRA be if the employee 401(k) investment options had excessive expense ratios? (Or if you maxed out your 401(k) contributions and some how qualified to make Roth IRA contributions)


So full disclosure I am not a financial pro, just a guy who likes personal finance and hopes to retire someday so everything I say could be full of shit…

 

I would argue it all still comes down to tax brackets; I’ll show my work…


I’ll use 2022/2023 401K and taxes

Let’s assume a MFJ couple earning $200k per year which puts them in the 32% marginal tax bracket. 

They invest $22,500 in their 401k earning 8% yearly for 20 years they will have $104,872. 
 

That $22,500 has 32% taken out of it before it can be invested as a Roth which leaves $15,300 to invest. Again growing 8% for 20 years the Roth is now $71,313. 
 

In 20 years the tax man comes due. Let’s assume they withdraw the entire amount to live on that year. The Roth is easy its taxes free so they have the full $71,313. The pretax 401k isn’t so lucky, using 2022 taxes they will owe $19,004 in income taxes. Taking these taxes out the 401k is left at $85,868 approximately 20% higher than the Roth. 
 

If this couple isn’t high earners but are just super savers and are in the 22% bracket the Roth ends up worth $81,800 so approaching the 401k. 
 

The tiered tax brackets really help the 401k because you are only taxed 12% on the first $40k coming out of the account where your investments were assumed to go in at your full marginal rate.  

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On 1/6/2023 at 8:45 AM, Nice Guy Eddie said:

Can someone explain a backdoor Roth strategy to me? I'm in my 50s and fully fund my 401k and catchup contributions at work.

I also have an IRA and Roth IRA with Merrill. Rollover from a former job.

Can I just contribute after-tax dollars to the IRA and then immediately transfer them over to the Roth IRA? Are there income or other restrictions? 

How large is your traditional IRA (if you feel comfortable sharing?  If it is not terribly large, you roll it over, pay your dummy tax (if you can stomach it) for not doing it sooner, and then begin to annually make contributions to roll over like you mentioned above.  

Yes, the pro-rata issue sucks, but...that's gonna be how you get started.  Absorb that tutorial I posted...it's designed to handle your exact situation.

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2 hours ago, Archer said:


So full disclosure I am not a financial pro, just a guy who likes personal finance and hopes to retire someday so everything I say could be full of shit…

 

I would argue it all still comes down to tax brackets; I’ll show my work…


I’ll use 2022/2023 401K and taxes

Let’s assume a MFJ couple earning $200k per year which puts them in the 32% marginal tax bracket. 

They invest $22,500 in their 401k earning 8% yearly for 20 years they will have $104,872. 
 

That $22,500 has 32% taken out of it before it can be invested as a Roth which leaves $15,300 to invest. Again growing 8% for 20 years the Roth is now $71,313. 
 

In 20 years the tax man comes due. Let’s assume they withdraw the entire amount to live on that year. The Roth is easy its taxes free so they have the full $71,313. The pretax 401k isn’t so lucky, using 2022 taxes they will owe $19,004 in income taxes. Taking these taxes out the 401k is left at $85,868 approximately 20% higher than the Roth. 
 

If this couple isn’t high earners but are just super savers and are in the 22% bracket the Roth ends up worth $81,800 so approaching the 401k. 
 

The tiered tax brackets really help the 401k because you are only taxed 12% on the first $40k coming out of the account where your investments were assumed to go in at your full marginal rate.  

 

Gotcha, thank you for running some numbers. I’ve always assumed I’d be retired in a higher tax bracket and perhaps neglected the alternative. Between hoping to maintain my lifestyle after retirement and what will surely be higher federal taxes across the board, this assumption still seems reasonable to me. I need to hit the spreadsheet and see how badly it will hurt if I’m wrong…
 

 

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On 1/9/2023 at 6:29 PM, Zepol87 said:

I have been contributing over company match for 401k for a couple of years and have a Roth that I also contribute to as well. Should I just contribute their max match and put that other money elsewhere? Financially dumb so apologies for basic ass questions but I am about 4k a year over what my company matches

The Health Saving Account is the common other savings vehicle where there is an explicit tax advantage. 
**
Discussion about working vs retirement tax rate, IMO dont overweight on something you cant reasonably predict or control. What you can control is whether to put additional money into savings at all, so that is a more impactful decision than 401k vs IRA vs etc. 

It ties into the other practical adage that, for when people are scrutinizing their investment choices, to remember rate of savings is more important than rate of returns.

If you 🐿️  away way more than the average 🐻 does, or think they should do, you will be okeley-dokeley

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4 minutes ago, 52-80 said:

The Health Saving Account is the common other savings vehicle where there is an explicit tax advantage. 
**
Discussion about working vs retirement tax rate, IMO dont overweight on something you cant reasonably predict or control. What you can control is whether to put additional money into savings at all, so that is a more impactful decision than 401k vs IRA vs etc. 

It ties into the other practical adage that, for when people are scrutinizing their investment choices, to remember rate of savings is more important than rate of returns.

If you 🐿️  away way more than the average 🐻 does, or think they should do, you will be okeley-dokeley

Absolute fact.  People get so caught up on percentages, they forget the most important percentage.  I know a lot of wealthy (and I use that term modestly because one can be wealthy without a 5000 sq ft house in River Oaks or Preston Hollow) folks who have saved well, invested smartly, but also have piles of lower return investments like whole life insurance that they've levered continuously to increase their wealth.  It's all about how much you save, not how much you make on your savings.  

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On 1/9/2023 at 2:05 PM, After irth said:

How large is your traditional IRA (if you feel comfortable sharing?  If it is not terribly large, you roll it over, pay your dummy tax (if you can stomach it) for not doing it sooner, and then begin to annually make contributions to roll over like you mentioned above.  

Yes, the pro-rata issue sucks, but...that's gonna be how you get started.  Absorb that tutorial I posted...it's designed to handle your exact situation.

I have an IRA and a Roth IRA currently and both which are very heavy in stocks (esp tech) are significantly down from the last year and a half. It feel like it would be a good time to roll the IRA into the Roth since it's down so much however my wife and I are still in a relatively high bracket. Thoughts on taking advantage of converting while the portfolio is beaten down or should I just sit with a tax deferred and one tax free for now?

 

Also I now work at a company with no 401K or retirement program of any kind so I guess my only option is the IRA deductible contributions correct?

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3 hours ago, Trey3216 said:

also have piles of lower return investments like whole life insurance that they've levered continuously to increase their wealth

In what ways have they done this? I have on with cash value of 20k, but I just let it sit there. I'm assuming they just use it to get favorable business loans?

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2 hours ago, KYHorn said:

In what ways have they done this? I have on with cash value of 20k, but I just let it sit there. I'm assuming they just use it to get favorable business loans?

Favorable business loans, using it to replace amortized debt (borrowing from a WL policy is simple interest, rather than amortized.  You can save yourself incredible amounts of money utilizing that debt and repaying it as opposed to amortized debt through the bank), it's not included in FAFSA so using it to fund a kid's college education where you/your family still benefits from it rather than just the institution, most have Terminal/Chronic illness riders that can be accessed during life to pay costs for terminal illnesses and chronic illnesses such as Alzheimer's, and many other ways.  

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Back door Roth IRAs confuse me and the “growing tax free” looks to me like just playing with brackets in an algebra equation.

I make $1000 that I want to save.

Roth IRA is post tax money.  So your value of your account is ((1-Tax rate) * (chunk of income devoted to saving) * return you get in market.  If I’m at 37% bracket, apply to my $1000 and the market doubles my money over time, that gives me .63*1000*2 I can use in retirement. 
 

Traditional IRA is untaxed money, but entire thing is taxed as income when withdrawn.  So your value of your account is chunk of income devoted to saving * return you get in market.  When withdrawn, multiply times 1-tax rate to see how much you get.  If I’m at 37% bracket, apply that after my $1000 doubles over time, that gives me .63*1000*2.  It’s the same equation. 
 

The only difference I see is the timing of when to apply the tax rate — now or upon withdrawal (and therefore the rate may be different).   If I’m a high earner now, why would I suspect my tax rate would be higher at retirement?  Why would I want my $1000 taxed now instead of later? Aren’t I almost certain to be earning more taxable income now than in the future (and therefore taxed at a higher marginal rate now)?  And if I’m talking about needing back door Roth IRA, I’m a high earner by definition.  
 

It may be intuitive that you should “pay less in taxes” by doing it before it grows, but that doesn’t mean the amount you get at the end of the day is bigger. 
it’s just:

ROTH: ((1-tax rate) * (savings)) * (market growth)

OR

TRADITIONAL: (1-tax rate) * ((savings) * (market growth))

 

Those are the same thing, except I suspect tax rate is bigger under Roth because it is now.  
 

So what’s the point of them? Thoughts:

1) I’m wrong or

2) Some high earners are happy to pay the taxes now simply because it allows them to effectively save more for retirement (eg, you put in $6500 into your IRA either way, but you are dedicating about $10k of your salary because it’s taxed to do so in Roth) or

3) Certainty in tax rates are comforting to people that they’d rather pay now under Roth because they know what the rate is versus gamble on future rate.   
 

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7 hours ago, BehoId, The Underminer! said:

Back door Roth IRAs confuse me and the “growing tax free” looks to me like just playing with brackets in an algebra equation.

I make $1000 that I want to save.

Roth IRA is post tax money.  So your value of your account is ((1-Tax rate) * (chunk of income devoted to saving) * return you get in market.  If I’m at 37% bracket, apply to my $1000 and the market doubles my money over time, that gives me .63*1000*2 I can use in retirement. 
 

Traditional IRA is untaxed money, but entire thing is taxed as income when withdrawn.  So your value of your account is chunk of income devoted to saving * return you get in market.  When withdrawn, multiply times 1-tax rate to see how much you get.  If I’m at 37% bracket, apply that after my $1000 doubles over time, that gives me .63*1000*2.  It’s the same equation. 
 

The only difference I see is the timing of when to apply the tax rate — now or upon withdrawal (and therefore the rate may be different).   If I’m a high earner now, why would I suspect my tax rate would be higher at retirement?  Why would I want my $1000 taxed now instead of later? Aren’t I almost certain to be earning more taxable income now than in the future (and therefore taxed at a higher marginal rate now)?  And if I’m talking about needing back door Roth IRA, I’m a high earner by definition.  
 

It may be intuitive that you should “pay less in taxes” by doing it before it grows, but that doesn’t mean the amount you get at the end of the day is bigger. 
it’s just:

ROTH: ((1-tax rate) * (savings)) * (market growth)

OR

TRADITIONAL: (1-tax rate) * ((savings) * (market growth))

 

Those are the same thing, except I suspect tax rate is bigger under Roth because it is now.  
 

So what’s the point of them? Thoughts:

1) I’m wrong or

2) Some high earners are happy to pay the taxes now simply because it allows them to effectively save more for retirement (eg, you put in $6500 into your IRA either way, but you are dedicating about $10k of your salary because it’s taxed to do so in Roth) or

3) Certainty in tax rates are comforting to people that they’d rather pay now under Roth because they know what the rate is versus gamble on future rate.   
 

No RMD’s is a big damn deal in ROTH.   The required distributions in a regular IRA are punitive and will, with near certainty, spend you out of money much faster than a ROTH.   

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Part of the Roth vs traditional is also how long until you need to withdraw. If you’re 30, the earliest you should withdraw will be 30 years but some of the funds may not be touched for 40 or 50 years.  That can produce high growth that makes up for the taxes you pay today.

if you’re 60, the Roth funds don’t have as much time to grow.

I’m 53 and lately have been putting most of my retirement into Roth. Roth wasn’t an option for me when I was young. I’m not far from starting withdraws but I want a mix of traditional, Roth and my own brokerage account funds when I retire. I feel this will give me options in whichever makes the most tax sense at the time.

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On 1/10/2023 at 3:31 PM, Nice Guy Eddie said:

It's 2-3x my annual salary so it would be tough to convert the whole thing to Roth. 

See if your current 401k will accept a rollover to it.  Pro rata rule only applies to IRAs not 401ks so if you get all ira amounts moved into 401k it will clear the way for a backdoor Roth.  Not sure how common it is for 401ks to allow this, but mine did it and I did this exact thing to enable back door Roths.

 

 

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On 1/12/2023 at 11:41 PM, BehoId, The Underminer! said:

Back door Roth IRAs confuse me and the “growing tax free” looks to me like just playing with brackets in an algebra equation.

I make $1000 that I want to save.

Roth IRA is post tax money.  So your value of your account is ((1-Tax rate) * (chunk of income devoted to saving) * return you get in market.  If I’m at 37% bracket, apply to my $1000 and the market doubles my money over time, that gives me .63*1000*2 I can use in retirement. 
 

Traditional IRA is untaxed money, but entire thing is taxed as income when withdrawn.  So your value of your account is chunk of income devoted to saving * return you get in market.  When withdrawn, multiply times 1-tax rate to see how much you get.  If I’m at 37% bracket, apply that after my $1000 doubles over time, that gives me .63*1000*2.  It’s the same equation. 
 

The only difference I see is the timing of when to apply the tax rate — now or upon withdrawal (and therefore the rate may be different).   If I’m a high earner now, why would I suspect my tax rate would be higher at retirement?  Why would I want my $1000 taxed now instead of later? Aren’t I almost certain to be earning more taxable income now than in the future (and therefore taxed at a higher marginal rate now)?  And if I’m talking about needing back door Roth IRA, I’m a high earner by definition.  
 

It may be intuitive that you should “pay less in taxes” by doing it before it grows, but that doesn’t mean the amount you get at the end of the day is bigger. 
it’s just:

ROTH: ((1-tax rate) * (savings)) * (market growth)

OR

TRADITIONAL: (1-tax rate) * ((savings) * (market growth))

 

Those are the same thing, except I suspect tax rate is bigger under Roth because it is now.  
 

So what’s the point of them? Thoughts:

1) I’m wrong
 

Not 100% this but this.

 

You are correct in the base assumption that withdrawals at full marginal rate should be equivalent   What is different is the first $647,850 you withdrew for the year will be taxed at 10-35% and not 37%.  
 

The income deductions for a pretax 401k removes income from your top marginal tax bracket, when you are withdrawing money you are starting to pay at the lowest marginal bracket  


Big pension or SS checks can change the decisions on pre tax or Roth because it will give you a floor of which tax bracket you start in and the rates that your pretax will be taxed at. I haven’t done the math but I could see where someone with a really good pension (say 80% income replacement) would want to do Roth because they will be in or very close to the same tax brackets from the pension incomes.

Edited by Archer
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15 minutes ago, Archer said:

Not 100% this but this.

 

You are correct in the base assumption that withdrawals at full marginal rate should be equivalent   What is different is the first $647,850 you withdrew for the year will be taxed at 10-35% and not 37%.  
 

The income deductions for a pretax 401k removes income from your top marginal tax bracket, when you are withdrawing money you are starting to pay at the lowest marginal bracket  


Big pension or SS checks can change the decisions on pre tax or Roth because it will give you a floor of which tax bracket you start in and the rates that your pretax will be taxed at. I haven’t done the math but I could see where someone with a really good pension (say 80% income replacement) would want to do Roth because they will be in or very close to the same tax brackets from the pension incomes.

This is an excellent point. 

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On 1/12/2023 at 11:41 PM, BehoId, The Underminer! said:

Back door Roth IRAs confuse me and the “growing tax free” looks to me like just playing with brackets in an algebra equation.

I make $1000 that I want to save.

Roth IRA is post tax money.  So your value of your account is ((1-Tax rate) * (chunk of income devoted to saving) * return you get in market.  If I’m at 37% bracket, apply to my $1000 and the market doubles my money over time, that gives me .63*1000*2 I can use in retirement. 
 

Traditional IRA is untaxed money, but entire thing is taxed as income when withdrawn.  So your value of your account is chunk of income devoted to saving * return you get in market.  When withdrawn, multiply times 1-tax rate to see how much you get.  If I’m at 37% bracket, apply that after my $1000 doubles over time, that gives me .63*1000*2.  It’s the same equation. 
 

The only difference I see is the timing of when to apply the tax rate — now or upon withdrawal (and therefore the rate may be different).   If I’m a high earner now, why would I suspect my tax rate would be higher at retirement?  Why would I want my $1000 taxed now instead of later? Aren’t I almost certain to be earning more taxable income now than in the future (and therefore taxed at a higher marginal rate now)?  And if I’m talking about needing back door Roth IRA, I’m a high earner by definition.  
 

It may be intuitive that you should “pay less in taxes” by doing it before it grows, but that doesn’t mean the amount you get at the end of the day is bigger. 
it’s just:

ROTH: ((1-tax rate) * (savings)) * (market growth)

OR

TRADITIONAL: (1-tax rate) * ((savings) * (market growth))

 

Those are the same thing, except I suspect tax rate is bigger under Roth because it is now.  
 

So what’s the point of them? Thoughts:

1) I’m wrong or

2) Some high earners are happy to pay the taxes now simply because it allows them to effectively save more for retirement (eg, you put in $6500 into your IRA either way, but you are dedicating about $10k of your salary because it’s taxed to do so in Roth) or

3) Certainty in tax rates are comforting to people that they’d rather pay now under Roth because they know what the rate is versus gamble on future rate.   
 

More reading, it looks like the answer is number 1 — I was wrong. 
 

my contributions to my personal IRA aren’t tax deductible.  It’s just simply a non-deductible IRA.  I need to convert this to a Roth.  If so, I’ll get both the non taxed growth (which my non-deductible IRA wouldn’t have) and I get the no RMD that Trey said.  It’s a big deal.  My error was not realizing that my current contributions weren’t deductible.  
 

IRS evidently hasn’t weighed in on this so we will see if this lasts forever or if I’ll have to pay a penalty one day. 
 

Seems fishy.  I’m just electing not to be taxed.  Whatever.  Safety in numbers.  

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On 1/9/2023 at 12:50 PM, B00M said:

 

With access to a Roth 401(k), wouldn’t the only reason to use your individual Roth IRA be if the employee 401(k) investment options had excessive expense ratios? (Or if you maxed out your 401(k) contributions and some how qualified to make Roth IRA contributions)

The other reason to use an individual Roth IRA is that with a Roth 401K, you can’t pull out any funds until you’re 59.5, unlike a regular Roth IRA.  So your Roth 401K earnings are tax free, but you can’t access the principal.

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3 minutes ago, Incredulity said:

not for a traditional IRA.

I was assuming it was what Trey said, but didn't find that noted in BTU original post.

Sorry, was reading too fast and didn't clarify.  I think a prety low income limit on traditional if you have a work plan

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3 hours ago, FirstTimeCaller said:

What do y'all use for tracking the value of your home? I like to keep tabs and normally use the average of Redfin and Zillow. Except Redfin is seeing wild swings. In the past month it went up 15% and now has dropped 11%. Would like something more reliable.

That may actually be semi-accurate.  

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2 hours ago, BehoId, The Underminer! said:

Yeah, I have work 401k.  The IRA is just something I started this time last year on vanguard. 

If you are under the contribution limit on MFJ or individually, then do ROTH since you aren't getting the benefit of deduction on additional contribution. 

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What do y'all use for tracking the value of your home? I like to keep tabs and normally use the average of Redfin and Zillow. Except Redfin is seeing wild swings. In the past month it went up 15% and now has dropped 11%. Would like something more reliable.

Zillow is so good at home valuation they… managed to lose their ass as a flipper.

Ask a realtor for some comps and all the appraisal district for the set they used to determine value.
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5 hours ago, FirstTimeCaller said:

What do y'all use for tracking the value of your home? I like to keep tabs and normally use the average of Redfin and Zillow. Except Redfin is seeing wild swings. In the past month it went up 15% and now has dropped 11%. Would like something more reliable.

 

2 hours ago, Trey3216 said:

That may actually be semi-accurate.  

Correct. There have been more price cuts recently in the US. Less buyers due to higher interest rates. A 10% decline, depending on your actual local market, isn’t out of the question. Austin has dropped 10% since June I think. 

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13 hours ago, Neonmoon said:

 

Correct. There have been more price cuts recently in the US. Less buyers due to higher interest rates. A 10% decline, depending on your actual local market, isn’t out of the question. Austin has dropped 10% since June I think. 

No, not like this. For an illustrative purpose (not the actual values), say Redfin in early December had it $800K. Then in early January at $920K. Today, it's $820K. So in a little over 30 days it saw huge swings. Meanwhile, Zillow has shown it at $850K the entire time.


As for the total drop since June, the value of the house is down about 20% from the (ridiculous) peak.

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