Girl Power Finance
Roth or traditional accounts, what is better? Should I use 401K or IRA? Questions go on and on. I want to tell you that despite being insecure or a bit scared you can understand your personal finances and you should. Just because they didn’t teach us how to invest in school doesn’t mean we can’t take matter in our own hands and learn about it. So let’s start with basic concepts and see where it takes us.
Roth or Traditional
- Roth – post tax. You invest after tax dollars. Money grows tax free – you do not pay taxes on your returns. There is no forced distribution.
- Traditional – pretax investment. Taxes come out at retirement. Forced minimum distribution at 70 ½
To decide what is best for you, you simply need to look at several simple things. Here is in depth comparison from investopedia.
Vanguard also offers a good comparison here.
Does your employer offer you a match?
Simple rule based on employer match:
You want to put away at least the percentage that your employer will match. You are throwing away money if you are not doing so.
Of course you can go deep into various rules, probabilities and more. But just think about those 2 simple rules and you will no longer feel overwhelmed.
What are your taxes and can you lower them over the life of your investment?
The further away you are from retirement, the more of a guess game it becomes. And trust me certified financial advisers cannot answer this question better than you can. They do not know. But they play it cool. So it is really a crystal ball.
In simple terms think about your personal:
- federal, state, and local income taxes;
- estimate of your taxes when you retire;
- what taxes are in you your ideal retirement place
Simple rule based on taxes:
The lower your tax rate the more you want to put into Roth type of account.
- Lower two federal tax brackets (10 and 15%) -> Roth
- Middle tax brackets (25, 28 and 33%) -> Roth and/or Traditional
- Highest two tax brackets (35 and 39.6%) -> Traditional with eye toward Roth Conversion
There are multiple complex calculation examples that can demonstrate you how tax rates work. You can check them out if you are interested. I suggest that if you do not like math, you can use simple common sense. If you think your taxes will be higher now – invest in pretax account. However if you think your taxes will be more at retirement – try to invest in Roth or post-tax accounts.
Here is an interesting article about IRA investment: