March 26, 2013
When presented with the option of a traditional 401K or the Roth 401K, what is the primary question you must answer before choosing?
When presented with the option of a traditional 401K or the Roth 401K, what is the primary question you must answer before choosing?
Do you plan on making more money in the future and how will that effect the taxes you pay on that money. Taxes are the main thing to take into consideration when looking between the two.
I’ve heard the advice that you should max out an SRA before a ROTH, I’ve also heard the opposite. I’ve heard you should draw on your ROTH after the traditional 401K, but I’m not sure why. Maybe I should have gone to the meeting last night.
It seems likely but unknowable if your tax burden will be more or less now compared to retirement. It seems like if you can build a traditional or a ROTH large enough to live on the gains, it doesn’t matter if it’s tax free or not. It seems like the power of compound interest would favor the traditional 401k model, but I haven’t seen that analysis.
One word: Taxes. Someone with a larger paycheck will likely want to invest in a Traditional 401K for the before-tax income benefits while someone with a small paycheck may not see the benefit of the before-tax income benefits, in which case a ROTH 401K will suit their needs better.
Taxes is the correct answer and all of you added something unique to the conversation. Well done! I think Molly stated the situation very clearly as she got right to the point. Will you pay higher taxes (federal, state and city income tax) in the future? Go with the Roth. Will you pay higher taxes now? Go with the traditional. Of course, Aaron is right to say there are many unknowns regarding your future taxable situation. This is where the individual must make the best decision based on what is known or thought to be known at this particular time. Great conversation everyone. Well done!
If you do not have a reserve cash acocnut with 3 to 6 months worth of living expenses, fund that first. Then, max out all your retirement plans. If your company offers a 401k plan with a roth option, choose that plan first. By the time you are older taxes could be higher and you would be able to pull money out of your roth tax free. Lastly, pay off your debt. I use to advise that one should pay off their debts first, however I find that a person would pay off their debts, save nothing, and then get back into debt. It would take a strong commitment to pay off debt and STAY OUT of debt. If you feel like you will always struggle with debt, then invest first and at least you will have the choice of taking money you saved and paying down your debts versus not having money saved and still having debt.
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