Yet another reason I like tax deferred?

Question

This is yet another post I am making about one of my favorite topics, investing. We know that a traditional IRA is tax deferred yet will have taxes paid on it during retirement. A Roth IRA grows tax free and has tax free withdrawals pending certain conditions met. But why a traditional? There are some that argue that taxes are going up, which is probably true. Personally, I like both types of IRAs. With a Roth, you pay current income tax on contributions that have not even made any earnings yet. That alone will tend me to favor tax deferred traditional. A traditional IRA will earn more over time with the power of compounding without the hassles of annual taxes hitting it. Like I said before, why not get a low low paying job after you leave your main job so that you are now in a lower tax bracket? Instead of maybe 25% tax on withdrawals, now you will only pay 10-15%. See the difference? All that money has grown without annual taxes. Now pay as little as possible on earnings.

See what I mean? Why pay 25%(more or a little less) now on contributions that haven't made any earnings instead of say, 10-15% later on while you are in a lower tax bracket? Makes sense to me. Don't be so quick to run a Roth. If possible, contribute to a 401 k, 403b and so on and possibly a Roth IRA to be diversified. Like I said, I like both. I just tend to be biased towards tax deferred. I would rather pay taxes on what I've made. You wouldn't pay income tax at your job before you've earned any money, would you? This is basically for those who don't have an employer sponsored retirement program.

Answer 1

Tax deferral is OK if you know for a fact that your income will be lower in your retirement years.

Personally, I'm well on track for having a similar income to what I have now once I retire and possibly more. Maybe even a LOT more. In my situation, I'll be much better off paying the tax on the funds going in to my Roth than I'd ever be with a traditional IRA.

The big value to a 401(k) is the matching funds from the company. That tilts the numbers in favor of the deferral with the 401(k) since I'm getting 100% to 200% ROI from jump street on that money. They may offer a Roth 401(k) next year and with that match and the tax-free accumulation going forward, I'll be switching (but not rolling over) to a Roth 401(k) if and when it's offered.

You still get the power of compounding with a Roth vehicle but the one-time tax levy on the funds going in will be more than offset by the totally tax-free accumulation in the Roth compared to a traditional IRA or 401(k), at least in my situation.

Deferral is cool, but avoidance is best. Do you want to know that you'll be hit by a bus in 10 years, or would you rather know that you'll be on the sidewalk when it flies by and just splashes you as it passes?

Don't forget that a BIG unknown on deferral is that we have NO CLUE what tax rates might look like in 15 or 30 years. There's a LOT that can happen between now and then. Keep in mind that the current budget deficits from the incompetents in DC today MUST be paid off sometime. That means massive tax increases at some point in the future. Republican or Democrat, there's NO way to avoid the eventual day of reckoning. It IS coming! With a Roth vehicle you're assured of TWO important things: First, you know what the tax bite will be since you are paying it TODAY. Second, you KNOW that regardless of where tax rates go, it will the TAX FREE when you start drawing on it. There's actually a third item to consider: Roths do NOT require mandatory withdrawals at age 70.5. If any of your retirement is in traditional accounts, you'll be FORCED to make taxable withdrawals once you hit that age. There will be NO way around that!