FI SCAL FI TN ESS continued from page 14 The Roth IRA contributions limits are lower than those in a 401(k) – $5,500 this year, plus another $1,000 if you’re 50 or older. Of course, you’ve got to meet the eligibility requirements (phased out at $135,000 Adjusted Gross Income if single: $199,000 AGI if filing married) to contribute. Conversion from an existing Traditional IRA is another idea. But as attractive as these plans are individually, they work even better as a pair. With a 401(k), you’re avoiding tax on your contribution today, but paying tax on withdrawals in the future. That means a 401(k) works best if you think your tax rate is higher today than it will be in the future. You’re avoiding taxes at a higher rate and paying them at a lower one. The reverse is true of a Roth, where you’re paying tax on your contribution today and avoiding taxes in the future. Thus, a Roth is a better deal when you expect your taxes will be higher in the future since you’re paying the lower tax bill today instead of tomorrow’s higher one. We can never be certain whether our tax rate will be higher or lower in the future. Even if you expect that your income will be lower in retirement, you may also lose lots of deductions (mortgage interest, retirement-plan contributions) that could result in a higher rate. But by putting money in both a 401(k) and a Roth IRA, you’re hedging your bets. Having different pots of money taxed different ways gives you more flexibility in managing your income in retirement. If, for example, withdrawals from a 401(k) combined with Social Security and other income are about to push you into a higher tax bracket in a given year, you can always dip into your Roth. So how can you maximize the advantages of both savings plans?
Start by contributing enough to your 401(k) to get the full employer match. This will give you the biggest bang for your 401(k) bucks: the convenience of payroll deductions, the upfront tax break and your employer’s matching funds (free money). Next, contribute as much as you can to a Roth IRA, up to the limit. By taking this step, you get the advantage of tax-free withdrawals down the road, plus you get the tax diversification. If you still save more money after this, then funnel your additional savings into your 401(k) until you reach the contribution limit. You won’t be getting the bonus of an employer match, but you’ll still get the convenience of payroll deductions, plus your money will grow without the drag of taxes until you withdraw it. In any case, that’s the strategy in a nutshell: do the 401(k) to the full match, then the Roth, back to the 401(k) and, if you can save still more, look for good options in taxable accounts. If you do this on a regular basis, you should not only have a nice fat nest egg when you retire, you should also gain some decent maneuvering room for reducing the tax bite on withdrawals from that nest egg during retirement. Consult with your financial and tax advisors for information specific to your individual situation. Michael J. Donnellan is President of King Financial, Inc. specializing in stock selection and retirement planning. Feel free to contact him with any questions or comments at the M3 Wealth Management office. 7601 W. 130th Street – Suite 1 in North Royalton, Ohio. Phone number (440) 652-6370
Email: donnellan@m3wealthmanagement.com
Securities and advisory services offered through L.M. Kohn & Company Registered Broker/Dealer Member FINRA/SIPC/MSRB 10151 Carver Rd. Suite 100 – Cincinnati, Ohio 45242 Phone: (800) 478-0788
The Growing Concern | Febru- The Growing Concern | February 2018 | 17 ary 2018 | 17