Convince me to max my 401k

[riverwed070707]

If I'm being honest, I never thought there would be a day that this was even feasible for me. Currently contributing 11% with a 3% employee match. I'm 35 and my current retirement savings is a little more than 3x my annual income. I opened and began maxing a Roth last year. E-fund fully funded. Up until recently I had been socking away savings and working to pay down my rental mortgages because I'm planning to retire at 42 (when DD graduates) and my focus was on cash flow to cover the gap between when I stop working and when I can draw on my 401k. I've recently refinanced the rentals and the rates are so low it makes no sense to pay them off - instead I'm going to focus on picking up an extra 2-4 doors over the next 6 years so that the cash flow covers my expenses without having the mortgages paid... and then once they are paid it will just be gravy but it won't be conditional to my retirement date. I already have the down payment funds and I'm just waiting for the right deal/a dip in the real estate market because prices are sky high here right now. Anyway, now that I'm not focusing on that, I just have all this extra cash sitting around I don't really know what to do with. I opened a taxable brokerage account for "playing" and its doing surprisingly well - far outpacing the % growth of my 401k which has very limited investment options. At the same time, I feel the amount I pay in income taxes is positively absurd so anything to reduce them would be helpful. I've played with a few calculators but can't get a good feel for if maxing my 401k will really have much of an impact on taxes owed or if I'd be better off looking for other ways to generate bigger returns. I feel like I know the answer, but I'm having a hard time committing because I'm already on track to have plenty in my 401k by the time I'm able to draw on it even though I'll stop contributing in a few years. WWSAD?

[HundredK]

That's a pretty drastic change in your investment philosophy, to go from planning to be debt free so you'll have plenty of cashflow to see you through your younger retirement years, to go all-in on leveraging debt and assuming all will stay kosher with the real-estate market and give you enough money to service the debt you'll now be keeping. It sounds like you have a good grasp on savings and all that, and I'm sure you did all of this with a huge amount of thought behind it. But it's still a huge change, so I wonder if that could have something to do with your reluctance to fully commit to your new plan? The 401k thing, I dunno... I think that always boils down to whether you believe your tax rate will be higher or lower later in life. Our tax rates are so comparatively low right now that I have to think they're only going to go up, and that leads me to invest with post-tax money as much as I can. So 401k or not, just be sure to invest whatever isn't being used for other goals. I personally would probably opt to not go the 401k route if I were planning early retirement, I'd want my cash somewhere that I could access it early without penalty. If you haven't already read it, there's a great book called How to Quit Like a Millionaire that could be worth a read- I really like her investment strategies.

[riverwed070707]

That's a pretty drastic change in your investment philosophy, to go from planning to be debt free so you'll have plenty of cashflow to see you through your younger retirement years, to go all-in on leveraging debt and assuming all will stay kosher with the real-estate market and give you enough money to service the debt you'll now be keeping. It sounds like you have a good grasp on savings and all that, and I'm sure you did all of this with a huge amount of thought behind it. But it's still a huge change, so I wonder if that could have something to do with your reluctance to fully commit to your new plan? The 401k thing, I dunno... I think that always boils down to whether you believe your tax rate will be higher or lower later in life. Our tax rates are so comparatively low right now that I have to think they're only going to go up, and that leads me to invest with post-tax money as much as I can. So 401k or not, just be sure to invest whatever isn't being used for other goals. I personally would probably opt to not go the 401k route if I were planning early retirement, I'd want my cash somewhere that I could access it early without penalty. If you haven't already read it, there's a great book called How to Quit Like a Millionaire that could be worth a read- I really like her investment strategies.

All good points. I am led to believe my tax rate will be lower in retirement. Planning to retire overseas so COL is much lower and I don't anticipate spending more than $30k/yr. With regard to confidence in the rental market... I guess I just feel like its a lot more stable than relying on investment returns which can have a number of down years. While I could have unexpected expenses at my rentals, rent doesn't just go down. I've heard of the book but haven't read it - I'll check it out! Thanks

[Randomsaver]

OP somewhere in your post you convinced yourself already.

[Petunia 100]

There are ways to withdraw from your 401k before 59.5 without paying penalties. Have you explored those? But there is nothing wrong with a plain old taxable account if that is your preference.

[riverwed070707]

OP somewhere in your post you convinced yourself already.

haha I'm an over thinker if you can't tell. Not sure if its more of a gift or a curse

[Jluke]

I think it is rule 72t. Equally substantial withdrawals or something.

for the 401k if you can move down a tax bracket with more contributions that could be more incentive to max it out.

I max both 401 and Roth. Never know when employment could end or take a salary hit.

[disneysteve]

If I was planning to retire at 42, I would not be locking up a bunch of money in an account I can't access (without penalties) until I'm 59.5 unless I was quite sure I would have sufficient income to cover me for those 17 years.

It sounds like you're not thrilled with the investment options in the 401k either. Get some money in your taxable account but focus on more tax-efficient stuff. That said, even if it isn't so tax-efficient, better to make the money and pay the taxes.

[Petunia 100]

I think it is rule 72t. Equally substantial withdrawals or something.

for the 401k if you can move down a tax bracket with more contributions that could be more incentive to max it out.

I max both 401 and Roth. Never know when employment could end or take a salary hit.

Yes, that is one way. The more popular one is the Roth conversion ladder.

[corn18]

If I was planning to retire at 42, I would not be locking up a bunch of money in an account I can't access (without penalties) until I'm 59.5 unless I was quite sure I would have sufficient income to cover me for those 17 years.

It sounds like you're not thrilled with the investment options in the 401k either. Get some money in your taxable account but focus on more tax-efficient stuff. That said, even if it isn't so tax-efficient, better to make the money and pay the taxes.

This. Substantially Equal Periodic Payments (SEPP) is the rule 72t. It's useful, but not ideal. What tax bracket are you in now? Tax bracket arbitrage with that long of a retirement is ok if you are in 35% tax bracket now. I would contribute to the 401k to get the match and then contribute to a Roth.

[riverwed070707]

If I was planning to retire at 42, I would not be locking up a bunch of money in an account I can't access (without penalties) until I'm 59.5 unless I was quite sure I would have sufficient income to cover me for those 17 years.

It sounds like you're not thrilled with the investment options in the 401k either. Get some money in your taxable account but focus on more tax-efficient stuff. That said, even if it isn't so tax-efficient, better to make the money and pay the taxes.

What other tax efficient stuff is there? Planning to add DD as a w2 employee for one of my side businesses this year which will allow me to both open a Roth for her as well as reduce profits/tax on the business. What else should I be looking at?

[riverwed070707]

This. Substantially Equal Periodic Payments (SEPP) is the rule 72t. It's useful, but not ideal. What tax bracket are you in now? Tax bracket arbitrage with that long of a retirement is ok if you are in 35% tax bracket now. I would contribute to the 401k to get the match and then contribute to a Roth.

My marginal tax bracket for the past 3 years has been 22%. I anticipate jumping up a bracket in the next couple years if I stay the current course. Federal effective tax rate has been 11-14% and I pay another 8.5% in state.
Already doing that with 401k and roth... what do I do with the excess??

[disneysteve]

What other tax efficient stuff is there?

Generally speaking, ETFs are more tax-efficient than mutual funds. Funds that focus on growth stocks and small company stocks also tend not to throw off as much in dividends. And index funds are typically more tax-efficient overall.

[corn18]

My marginal tax bracket for the past 3 years has been 22%. I anticipate jumping up a bracket in the next couple years if I stay the current course. Federal effective tax rate has been 11-14% and I pay another 8.5% in state.
Already doing that with 401k and roth... what do I do with the excess??

Just put it in a taxable brokerage account in tax efficient mutual funds or ETF's. The worst you can do on taxes is paying 15% on the capital gains (well, 23.8% if you make more than $450k).

If you are in the 22% tax bracket now, you might be in the 15% tax bracket when you retire(remember the 12% tax bracket goes away in 2025). Not enough arbitrage there to justify tying the money up in the 401k. If you contribute $1k to the 401k, you might get a 22% tax break. If you pull it out in 20 years, you might pay 15%. Is the hassle of getting it out before 59.5 worth 7% arbitrage? I guess it could be, but if I were you, I would max my Roth and then put the rest in taxable.

[LivingAlmostLarge]

tying it up? No. Taxable is very flexible. Now if you have a Roth 401k it might make sense for someone like you. You could end up in a higher bracket in retirement...