Feedback on Retirement savings

Re: Feedback on Retirement savings

• hoffse member

  

  October 2013 edited October 2013

  15% is usually just fine when you start in your mid-20's - you started a bit earlier (good for you!) so you can probably stick with this figure going forward.  A slightly better benchmark is having 1x - 1.5x your then-current income in retirement when you and your H are 35. I prefer the higher estimate because the lower estimate includes social security... and I prefer to assume we're not getting any.  Here's a link that shows you the low-estimate benchmarks, but keep in mind these include social security.  If you don't think you'll get social security for one reason or the other, you want more than this:

  
  

  http://www.forbes.com/sites/baldwin/2013/10/01/formula-how-much-to-put-in-a-retirement-account/

  
  

  Yes, it's 15% over the total amount you  put away or earmark for retirement, not necessarily 15% solely in a 401(k). Though of course, the more the better. 

  
  

  H and I actually put some cash for retirement away into regular investment accounts instead of putting everything away into specified retirement accounts.  Specified retirement accounts have some great benefits, but they also have some frustrating aspects to them that a lot of folks don't realize until they reach retirement age.  For instance, 401(k)s have mandatory withdrawals starting at a certain age (71?).  You have to start taking money out whether you need it or not, and it's taxed as ordinary income.  Assuming the tax laws don't change dramatically in the next 40 years - and who knows if they will - ordinary income rates are higher than capital gains rates.  So from a tax-standpoint, it's better to liquidate capital assets instead of pulling cash out of a 401(k) during retirement.  Except you're required to pull cash out of your 401(k) if you live long enough... you see where I'm going with this.

  
  

  H and I have spent a lot of time trying to figure out how to hedge against the possibility of change in the tax code while choosing the best balance of accounts.  Of course, nothing is certain, but this is what we're doing right now:

  
  

  1) About 40% of our retirement goes to regular 401(k) accounts because the current deductions lower our income enough to get certain tax breaks with the lifetime learning credit.  The lifetime learning credit is worth a couple thousand bucks, and without contributing this much to traditional 401(k)s, our income would disqualify us from taking it.  So that seems like a no-brainer to us.

  
  

  2) About 30% goes into Roth accounts - either a Roth IRA or a Roth 401(k).  They work in exactly the same way, except the Roth 401(k) has a higher contribution limit ($17,500 for 2013, as opposed to $5,500 for a Roth IRA).  These are nice because if the tax law doesn't change, we will have 40 years of capital gains that are tax-free when we withdraw them.  They're also tax-advantaged for estate planning purposes, so some people use these to transfer money to their heirs.  

  
  

  3) Because I'm not convinced that Congress will let Roths remain tax-free by the time we retire (one day they're bound to realize that they are losing a ton of money with these accounts), we also put about 30% away into regular investment accounts to try to capture the capital gains rates as opposed to ordinary income rates.

  
  

  In a year or so the lifetime learning credit won't be applicable for us anymore, so at that time we might increase the Roth percentage and lower our regular 401(k) percentage.  We haven't decided yet.  Frankly, if the Roth rules don't change, that's where the lion's share should go because 30-40 years of untaxed gains is ridiculously huge.  But of course, we have no way of knowing if the rules will stay the same between now and then.  I will say that the closer we get to retirement age without the rules changing, the more heavily we will favor Roth accounts.

  
  

  We could have guessed completely wrong in this break down - we have no way of knowing. But we watch it from year to year to see if there are going to be any major changes that inspire us to do something different.  It doesn't look like there are going to be major changes in 2014, so I think we will stick with this for at least the next year. 

  
  

  
  

  

  Report0 Reply
• CuriousKiddosMama mod

  

  October 2013

  If you are doing 15% then you are doing great. You both started young, so that is another huge bonus, you have that many more years of compounding interest. One thing to consider would be if you are not fully funding the IRA each year would be to take a % or whatever from the 401K to fully fund the IRA and get the future potential tax benefits like PP said. Dave Ramsey would say fund the 401K until you've matched the employer match, then fully fund the IRA (especially if it's Roth) and then put anything else back into the 401k or another retirement account.
  

  

  Report0 Reply
• hoffse member

  

  October 2013 edited October 2013

  Your husband may want to ask his employer about a Roth 401(k).  You can get a match with them (the match goes into a regular 401(k) account). As I mentioned, they work like regular Roth IRAs.  Many employers offer the Roth 401(k) but people just don't know about it to ask.  You can also make full contributions to both a Roth 401(k) and a Roth IRA in the same year.  That works out to be $23,000 per year that can go into tax-free growth accounts....  assuming the rules stay the same and they continue to be tax-free.

  
  

  Your husband can also continue to contribute to your Roth IRA even after you are a SAHM (despite the fact that you will no longer have an income).  As long as you file jointly, his income will be attributed to you for tax purposes, and that's a way to get around the Roth rule restricting contributions to 1) your income earned that year or 2) $5,500, whichever is less.

  
  

  And once again I don't agree 100% with Dave Ramsey (is this a theme?).  I think he's correct that you fund a 401(k) up to the match and then the Roth IRA... but I don't know that extra money should go to a designated retirement account.  If we knew the various tax rules weren't changing between now and retirement then yes - anything extra should go to max out a Roth 401(k) - but not a regular 401(k) if you can help it.  

  
  

  If it all goes to a regular 401(k), you end up paying more in taxes on regular 401(k) distributions during retirement than you save on the deductions from year to year.  People get excited for the tax deductions, but they don't realize two things:  First, a tax deduction is not a dollar-for-dollar savings on your taxes.  Those are called tax credits.  A deduction saves you only your marginal tax on that income.  Second, when the entirety of your 401(k) withdrawals are taxed at ordinary income rates - not just the contribution you made back in the day, but also the gain - it almost always ends up in the government's favor.  The contribution had a lot of time to grow and you are probably in a higher tax bracket when you retire than you were in your 20's or 30's.  I think it's a bit sneaky actually.  As I mentioned, we're favoring a regular 401(k) right now just to lower our income to qualify for an additional tax break.  But once those tax breaks are no longer relevant for us, we probably won't favor the traditional 401(k) any longer.

  
  

  People who are retiring now (example: my parents) are discovering that they really don't want to make those withdrawals from their regular 401(k)s because they don't want to be taxed at ordinary income rates.  I believe Roth 401(k) distributions are also mandatory at a certain age, but those gains aren't taxed (supposedly).

  
  

  So I would send extra to a Roth 401(k) account if your employer offers it (and watch the law to make sure it doesn't change). Otherwise, I would probably invest in regular mutual funds, etc. and just pay the capital gains tax when I retired.  Right now the capital gains rate is 15%, versus ordinary income which is often 25% or 28% for retirees drawing on their regular 401(k)s.  

  

  Report0 Reply
• Ducktale member

  

  October 2013

  Thanks! Appreciate the info.

  Report0 Reply