Does a Roth 401(k) make sense when I’m in the highest tax bracket?[ Edited ]
I recently learned that my employer offers a Roth 401k option as part of its retirement savings plan (RSP). What factors should I consider when deciding where to invest my contributions to my employer's RSP (traditional 401k, Roth 401k or a combination of the two)? Please consider the following facts when responding to this question: 1. I always make the maximum allowable contribution to my employer's RSP ($17,500 for 2014). 2. I'm already in the highest tax bracket, and I don't expect that to change substantially before I retire. 3. I already contribute $5,500 / year to an IRA, and then convert it to a Roth IRA. Thanks.
It sounds to me like your current approach is a good one so I don't think I’d change it!
Taxes Now vs. Taxes Later
One of the biggest factors in the Roth vs. Traditional retirement saving decision is taxes. Specifically, which approach do you think will cause you to pay the least in taxes over your lifetime. Using a traditional, pre-tax approach will reduce your tax burden today but will cause you to pay taxes in the future. While using a Roth approach will cause you to pay more taxes today but potentially avoid them altogether in the future. Practically speaking, this means that if you anticipate your tax bracket when you withdrawal the money will be the same as or lower than your tax bracket when you contribute it, the Roth approach should be the better move. Or, if you anticipate the opposite will be true with your tax brackets - that they'll be higher later than now - then the traditional, pre-tax approach should win.
Diversification is Prudent
Of course the most difficult aspect of this decision is the fact no one knows what the tax brackets or tax rules will be in the future. What’s more, with a typical retirement expected to last for up to 30 years, it’s unlikely that either the brackets or the laws will remain the same for your entire life. In light of this uncertainty I often counsel folks to do exactly what you’re doing with your Roth IRA conversions and make sure you have diversification of tax treatment within your retirement assets. Having some pre-tax assets, some Roth assets, and even some currently taxable assets should increase your control over the taxes you’ll pay in retirement by giving you different pools of money to tap into depending on the tax situation at the time.
So again, even though there’s no way to know for sure which approach will work out best, I like what you’re currently doing! Thanks so much for your question and best of luck to you!