Dollars and Diagrams

The 401k Decision

Retirement Funding

For many who have a 401k, they struggle to make the decision on whether to contribute to the Pre-Tax 401k or the Roth 401k.

🎯 The pre-tax 401k will lower your taxable income.  If you are in the top tax bracket today (37%) and pay 5% in state taxes, putting in the full contribution of $19,500 will save you $8,190 in taxes today.

🎯 That contribution will be worth approximately $106k in 25 years at a 7% return.  Let’s assume you are in a lower combined tax bracket in retirement (20%), withdrawing that money will cause a tax impact of ($21,167).

📈 The Roth 401k will NOT provide a tax break when you make the contribution because you are investing after-tax funds.   In fact, you will pay $8,190 in tax today.

📈 However, in 25 years you will be able to withdraw the all of your qualified funds tax free!

NOTE:  The Roth haters will say that you should contribute to a Pre-Tax 401k and then invest the tax savings.  If you did that, your $8,190 of tax savings would have grown to $44,450.67, assuming 7% annual return over the 25 years. .  However, this many has probably leaked taxes along the way.

🤔 Do you think taxes will be higher in the future?  Would it benefit you to pre-pay your taxes?

 

Information in this material is for general information only and not intended as investment, tax or legal advice. Please consult the appropriate professionals for specific information regarding your individual situation prior to making any financial decision.

The examples presented are hypothetical and are not representative of any specific situation. Your results will vary. The hypothetical rates of return used do not reflect the deduction of fees and charges inherent to investing. A Roth 401k offers tax deferral on any earnings in the account. Qualified withdrawals of earnings from the account are tax-free. Withdrawals of earnings prior to age 59 ½ or prior to the account being opened for 5 years, whichever is later, may result in a 10% IRS penalty tax.

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