Post
by sophie » Sat Jun 03, 2017 12:38 pm
Let's think about this a second. The state/local taxes won't change regardless of what happens to my income, unless I move. I don't know if that will happen, so I will assume not.
I think your accountant is oversimplifying a bit, but in the 15% bracket you're not much worse off forgoing tax deferral. Let's run a quick example scenario.
Let's say you start with $1,000. If you put it into a 401K growing at 5%/year, it will grow to $1628 after 10 years. If you then withdraw it and pay 15% taxes on it, you'll be left with $1,384.
If you pay the taxes on that $1,000 up front, you're left with $850 to invest. After 10 years, it will grow to $1,384. But, you'll have to pay taxes on interest or ordinary dividends. Let's say that's 25% of the gains, i.e. $534. So after tax you're left with $1304.
Note however that the difference in reality will be greater than this. 15% is your MARGINAL tax rate, i.e. what you save with tax deferral since the deferred amount comes off the top. When you go to withdraw, even if you're in the same bracket it's unlikely that you'll pay that rate on the entire amount. Thus, you tax bill at the end will be less than what I've calculated in this scenario. On the other hand, you might be able to take advantage of tax-loss harvesting to reduce taxes on your regular income, which could make up the difference.
So in your shoes (15% bracket) I'd also forgo the tax deferral, religiously tax-loss harvest, use Roth space for non-stock assets, and be happy about the simplification. Once you go up to 25%, though, the differences increase. I'll have to play around with spreadsheets a bit more, to see if there's a time horizon where it makes sense to stop contributing to tax-deferred accounts - that would be nice actually!