So I was looking through my paystubs and realized I have paid a lot in taxes this year. I have a pension but have started to put money in a 401K. I am new to investing and have a few questions. My 401K isn't matched at all by my employer. Should I be maxing out my contibution pre tax and will that lower my tax liability? Also should I put money in after tax if I max out the $23K we can put in next year?
Reducing taxes
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npaden
Well-known member
Just because you are having income tax withheld from your paycheck doesn't mean you actually owe that much. You won't know for sure until you file your taxes and either get a refund or owe more.
Contributing to your 401k would lower your tax liability. It should reduce your income tax withholding on your paycheck as well.
Depending on your income level after you max out your 401k you might be able to contribute to a ROTH IRA with after tax money. That won't affect your current taxes though.
Contributing to your 401k would lower your tax liability. It should reduce your income tax withholding on your paycheck as well.
Depending on your income level after you max out your 401k you might be able to contribute to a ROTH IRA with after tax money. That won't affect your current taxes though.
npaden
Well-known member
That's not going to do anything to help him with his taxes that he is concerned about.
Roth is 100% dependent on whether you think you are paying a higher tax rate now or when you retire (or if you are maxed out on your 401k).
I'm at my peak earnings and expect that my tax rate will be lower after I retire so saving 32% tax now and then paying 24% tax when I make the withdrawals seems like the way to go.
With that said, after I max out my pre-tax 401k I then do a back door Roth IRA for myself and for my wife. This gives me a little bit of after tax money that I can play around with to maximize use of tax brackets at retirement.
If you are young and your tax rate is low by all means use the Roth 401k or Roth IRA options that are available.
K
He brought investments into the discussion. Investing in a Roth is a better financial decision than an unmatched 401k.
I wasn’t commenting about lowering his taxes.
He brought investments into the discussion. Investing in a Roth is a better financial decision than an unmatched 401k.
wolfpup
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How old are you now? You say you have a pension... does that mean you are receiving pension income or you will have a pension benefit when you retire?
Depending on your retirement age and projected income will answer your question.... basically control your taxes now vs later and rub that crystal ball to see how long your going to live to reap any benefit.
Depending on your retirement age and projected income will answer your question.... basically control your taxes now vs later and rub that crystal ball to see how long your going to live to reap any benefit.
I am 43 and can retire from my company at 49 I will have my 30 years. I will probably work until 59. I do not have any match and have put $11500.00 in my 401K so far this year. I defenitly will be making less in retirement than I am now so would it be better to max out my 401K to lower my tax liability? I usually break even or pay $1K in federal every year. So am I giving money away that would be going into my 401K if I was maxing it out?
I would skip the company 401k if there is no match- start a Contributory IRA through Schwab etc… and contribute to that instead. Find a few index funds to buy and it will be much cheaper than a normal 401k.
It would be a good idea imo to split contributions between Contributory and Roth if you have any plans of retiring before Medicare eligibility kicks in. That’s where that Roth money will be especially important (doesn’t show as income).
It would be a good idea imo to split contributions between Contributory and Roth if you have any plans of retiring before Medicare eligibility kicks in. That’s where that Roth money will be especially important (doesn’t show as income).
My opinion only, but it seems there is almost never a good reason to put in any additional money into a 401k once your match is hit. Better places for that money on your own, 401ks are generally really expensive (fees).
A 1-2% fee does not sound like much, until you realize that you are maybe making 8% a year- that’s 1/8th to 1/4 of your earnings overall.
npaden
Well-known member
Every 401k plan is not created equally. For sure check the fees and expenses, but many or most 401k plans now have plenty of good options. The new fee disclosure requirements should help check that out. Employers now have a fiduciary responsibility to keep expenses reasonable as part of offering a 401k plan.
Our 401k has an expense load well under 1% and has several different index funds as investment choices with almost zero expense load. If you think your IRA at fidelity or edward jones or someplace like that doesn't have an expense load then you aren't looking hard enough.
If the goal is to reduce taxes you are going to max out a IRA way before you would a 401k.
Our firm currently audits around 35 different 401k plans and while there are some that aren't great (if I were to use generalizations I would say ones associated with insurance companies tend to have the highest fees), most are going to have pretty reasonable fees.
Our 401k has an expense load well under 1% and has several different index funds as investment choices with almost zero expense load. If you think your IRA at fidelity or edward jones or someplace like that doesn't have an expense load then you aren't looking hard enough.
If the goal is to reduce taxes you are going to max out a IRA way before you would a 401k.
Our firm currently audits around 35 different 401k plans and while there are some that aren't great (if I were to use generalizations I would say ones associated with insurance companies tend to have the highest fees), most are going to have pretty reasonable fees.
SAJ-99
Well-known member
This subject comes up about once each year.
More info please. I think I agree with @npaden that they are the same if tax rates now and in retirement are identical. I think we concluded that there are some niche benefits because a Roth isn't included in income if you got insurance through ACA from 59-65 it would help.
Lawsuits against employers over the decades has resolved this. 401Ks should have few fees other than those charged by the investment funds. If you choose a passive index fund, it should be only a couple of basis points. If you believe in active funds, the 401K should have the cheapest share class of the funds in the lineup.
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westbranch
Well-known member
We currently have historically low tax rates that expire in 2025. If in 24% or lower tax bracket Roth for sure makes more sense than traditional/pretax. 32% and higher + state income tax I would lean towards more pretax.
Tax brackets:
taxfoundation.org
Tax brackets:
2023 Tax Brackets
The IRS recently released the new inflation adjusted 2023 tax brackets and rates. Explore updated credits, deductions, and exemptions, including the standard deduction & personal exemption, Alternative Minimum Tax (AMT), Earned Income Tax Credit (EITC), Child Tax Credit (CTC), capital gains...
taxfoundation.org
AvidIndoorsman
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Couple things.
1. 401k, 403b etc are the terms for the class of accounts. Traditional and Roth are subtypes of each traditional = pretax, roth = post tax.
You can have a Roth 401k, 403b, 457b, IRA etc or a traditional each of these.
401k, 403b, 457b
Are employer accounts, with a 23k max in 2024
IRAs have a $7000 limit, and income limit rules. The traditional IRA tax benefit phases out, the Roth IRA has a income limit, but that can be skirted using a Traditional to Roth conversion.
2. Like others have said kinda depends on how much you make and goals. Sure you might “math” out better with a Roth but a tradition lowers your tax burden and because it’s pretax it takes 24-30% (whatever your bracket) less $ to max out.
If your finances are tight it might be the move.
Traditional is also better if you’re going to have substantially lower income in retirement, or if you have student loans, or if you are trying to lower your AGI to meet the limits for various other tax credits and deductions… just depends.
Everyone’s finances are different and while folks can speak in generalities it’s hard to know what exactly is best for someone else without knowing all the facts.
My approach has been to read up on all the different options, and then think about what works best for me, no one knows my goals and situation better.
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Roth offers the most flexibility in retirement. Not subject to RMDs, all the investment returns are also tax free, etc. IMHO, for the vast majority of people, the Roth is a no brainer compared to getting the up front pre tax of a Traditional. Having it all tax free, if needed, in retirement is the way to go.
npaden
Well-known member
I’m not sure I agree with you homers.
It essentially comes down to your current tax rate and whether that is more or less than you expect the tax rate to be in retirement.
The math says it is an exact wash if the rate is the same. There aren’t RMDs for a Roth and that does give you some flexibility and it is nice to have some Roth money along with traditional pre-tax money but I’m not sure I would say that it is better for the vast majority of people.
Younger people starting out it is almost always better. Once you reach peak earnings it most likely is not better.
Last I checked paying 32% tax was not better than paying 24% tax.
It essentially comes down to your current tax rate and whether that is more or less than you expect the tax rate to be in retirement.
The math says it is an exact wash if the rate is the same. There aren’t RMDs for a Roth and that does give you some flexibility and it is nice to have some Roth money along with traditional pre-tax money but I’m not sure I would say that it is better for the vast majority of people.
Younger people starting out it is almost always better. Once you reach peak earnings it most likely is not better.
Last I checked paying 32% tax was not better than paying 24% tax.
Don’t forget to consider the return $s and not just the initial contribution. The investment should be considerably more money if invested properly over 20-40 years. That money is either going to be taxed, Tradional, or tax free if in a Roth.
npaden
Well-known member
The math works out to the penny either way if the tax rate is the same.
If you are maxing everything out you could essentially invest more into a Roth and as you mentioned there are no RMDs with a Roth and a few other nice things on flexibility mainly.
Assuming the same tax rate I think it is probably better to go with a Roth from that perspective.
It’s funny to me that the title of the post is the guy asking ways to save tax and several are telling him to do a Roth.
Let's take a simple example. Contribute $10k into 401k account. A Traditional will go in pre tax, so at 25% tax rate, yields $2500 in tax savings. Decades later, the account has grown to $50k. Retirement time! Traditional must take forced RMDs, and (insert whatever tax rate you think will be there decades from now), but assume 20%. All $50k in withdrawals are taxed at 20% (probably higher) = $10k in taxes dues and $40k cleared. Now use same numbers for the Roth. Didn't save the initial $2,500 in taxes however all $50k is available tax free. Now run the math with $1M or $3M in the 401k at retirement.
Blacktailbc
Well-known member
You aren’t taking into account the growth he made with that extra $2500 pre tax money. Pre tax 401k you are achieving growth with some of Uncle Sam’s money , so to speak.
