Golf is interesting to watch when players are confronted with difficult choices. With the Masters around the corner, one of my favorite choices occurs on the course’s 15th hole, called Firethorn.
The 15th is a par-5, 550-yard hole that on the right day has a green that’s reachable on the second shot. A pond protects the green in front, and a bunker is on the golfer’s right. So after a drive, do you go for glory or play it safe?
In 1993 Chip Beck, an affable PGA Tour stalwart who had achieved modest success, faced this choice while competing for a green jacket in the tournament’s final round. If he had gone for the green, he might have had a fighting chance to win. But he laid up, and Bernhard Langer coasted to victory.
Financial planning for retirement also requires making some vexing choices. One of the more interesting ones involves tax strategy. Your employer might give you a choice on your retirement-plan contributions: Make them pretax to a traditional 401(k), or post-tax to a Roth 401(k). Somewhere around 90% of employers that offer a 401(k) allow employees to contribute to a Roth account; that’s up from a little over half 10 years ago.
With post-tax contributions, you’ve already paid the taxes on the contributions. There are various standards that need to be met, but for some retirees, qualified withdrawals from a Roth 401(k) might be tax-free. Sounds great, especially if you expect to be in a higher tax bracket in retirement.
But the decision to contribute to Roth 401(k)s isn’t simple. For example, since the contributions are post-tax, you aren’t reducing your taxable income. If you expect to be in a lower tax bracket in retirement than the one you’re in today, that might not be the most tax-efficient route.
Making matters more difficult, tax policies can change. Just over the past several years, we’ve seen major legislation regarding taxes. There’s no guarantee that the rules in place for Roth 401(k)s will be there in the future.
To give yourself flexibility in the future, if you have the option, it might make sense to have both a traditional and Roth 401(k). That way you can employ a withdrawal strategy in retirement based on what’s best for in terms of taxes. You’d also have flexibility in making contributions.
The downside is that your retirement planning, as well your financial decision-making in retirement, will become more complex. There’s virtue in simplicity, but with the uncertainties in tax policy, coupled with uncertainty in what your tax bracket will be in retirement, working through the choices with a financial advisor can help you minimize the impact of taxes on your retirement income.
The government is always going to get its cut in taxes. But with pre-tax and after-tax options for retirement plans, you have some control over when you’ll pay them.
https://www.latimes.com/archives/la-xpm-1993-04-12-sp-21950-story.html
https://www.cnbc.com/2023/11/27/how-secure-2point0-may-prompt-more-workers-to-use-of-a-roth-401k.html#:~:text=More%20workers%20are%20getting%20access,of%20America%2C%20a%20trade%20group.
Evan R. Guido is the Founder of Aksala Wealth Advisors LLC, a 2018 Forbes Next-Gen Advisors List Member, and Financial Professional at Avantax Investment ServicesSM. Evan heads a team of retirement transition strategists for clients who consider themselves the “Millionaire Next Door.” He can be reached at 941-500-5122 or eguido@aksalawealth.com. Read more of his insights at https://finance.heraldtribune.com/category/ask-guido/. Securities offered through Avantax Investment ServicesSM, Member FINRA, SIPC. Investment advisory services offered through Avantax Advisory ServicesSM, Insurance services offered through an Avantax affiliated insurance agency. 6260 Lake Osprey Dr. Lakewood Ranch, FL 34240. The views and opinions presented in this article are those of Evan R. Guido and not of Avantax Wealth ManagementSM or its subsidiaries. Past performance does not guarantee future results. The S&P 500 is an index of 500 major, large-cap U.S. corporations. Standard & Poor's is a corporation that rates stocks and corporate and municipal bonds according to risk profiles. The S&P 500 is an index of 500 major, large-cap U.S. corporations. You cannot invest directly in an index. An investment in a money market fund is not insured or guaranteed by the FDIC or any other government agency. Although the Fund seeks to preserve the value of your investment at $1.00 per share, it is possible to lose money by investing in the Fund. CDs are FDIC insured and offer a fixed rate of return. They do not necessarily protect against a rising cost of living. The FDIC insurance on CDs applies in case of insolvency of the bank, but does not protect market value. Other investments are not insured and their principal and yield may fluctuate with market conditions. Investments are subject to market risks including the potential loss of principal invested. Retirement plan withdrawals may be subject to taxation and penalties when withdrawn early.