401k Vs Roth Ira

[STRATOCASTER17]

Hi this is my first post. I am 25 years old, I have been working with the same company for 7years now and last year was promoted to accounts payable, and assistant to the office manager. After taxes I bring home $2000 a month. I am the type of person that calculates all their expense down to the penny, because early retirement is my ultimate goal. I currently live at home with my girlfriends parents.

My monthly expenses come to $650 each month. This includes car insurance, cell phone, gas, eating out, buying misc. items, gym membership, etc. I use my credit card for everything (for the rewards points) and pay it off in full each month. I never let the limit go over $650 so this covers all expenses I can encounter. If I want something say that costs $100 I lover my spending by $50 for two months and then make the purchase.

This leaves me with $1350 each month for savings, which totals $16,200 for the year.
Subtract $1500 for all sorts of gifts for the year, birthdays, Christmas, anniversary, etc. I have a big heart.
Subtract $1500 for music gear purchases, I love guitars and it's easily my biggest weakness when it comes to spending.
Subtract $2000 for traveling/vacations because I love to travel.
This leaves me with $11,200 as a yearly savings.

I was actually able to save more than that by working overtime and saved $12,400 this past year. This brought my total savings account to just over $20,000. Now I am expecting another raise by Feb. and with the extra money I am looking into starting a Roth IRA or enrolling in my companies 401k, the company does not match at all.

So if I were to only invest $5500/year in either a 401k or a roth IRA which one would be better to put my money into? I am keeping so much cash in savings because I am saving up for short term expenses such as wedding and a house. From what I have read I feel that the Roth IRA is the way to go, but I have been talking to a few people who strongly suggest I invest in the 401k and eventually open up an additional Roth IRA.

[btctony]

I'm very curious to what others have to say, but if my company did not match, and I was only going to invest 5500 a year, it would be in a Roth IRA.

-If taxes rise, it won't matter, because you've already paid tax on it.

-For the most part, fees are going to be a little less.

-You always have access to the principal without penalty.

Personally I choose to go with my companies 401K, because we have a 100% match for the first 4% and a 50% match on the next 3%. The match outweighs the slightly higher fees and possibility of tax hikes by the time I retire.

[Petunia 100]

If you retire early, where will your income come from? Will it be strictly withdrawals from your savings? Some other source?

You don't want your only source of income to be withdrawals from a Roth. If that is the case, it means you paid too much income tax along the way. Everyone is allowed some taxable income in the 0% tax bracket. You want to make sure you are on track to have that bracket full.

[btctony]

If you retire early, where will your income come from? Will it be strictly withdrawals from your savings? Some other source?

You don't want your only source of income to be withdrawals from a Roth. If that is the case, it means you paid too much income tax along the way. Everyone is allowed some taxable income in the 0% tax bracket. You want to make sure you are on track to have that bracket full.

How do you calculate how much taxable income you'll be allowed to have in the 0% bracket thirty years from now?

[Petunia 100]

How do you calculate how much taxable income you'll be allowed to have in the 0% bracket thirty years from now?

It's not possible to calculate with certainty. But we can check to see if we are on track.

For 2013, the standard deduction for a single person is $6,100, the personal exemption is $3,900. So for 2013, a single person under 65 with no dependents can have 10k of taxable income without paying any federal income tax.

So working backwards, if one is using a 4% withdrawal rate, a nest egg of 250k will provide 10k of annual income.

[jIM_Ohio]

I would make sure around 20-30% of what you save is outside 401k and Roth IRA anyway- whether it be a money market account, brokerage account or similar.

Keep liquidity high until life becomes normal (you have your own place etc...)
I would just do the Roth for now
and keep taxable savings and taxable investments too.

[cardtrick]

I agree with JM_Ohio. Do the Roth and maybe a bit of 401K and the rest in taxable investments. $5500 Roth, $2000 401K and the rest in taxable?

[Like2Plan]

not match at all.

So if I were to only invest $5500/year in either a 401k or a roth IRA which one would be better to put my money into? I am keeping so much cash in savings because I am saving up for short term expenses such as wedding and a house. From what I have read I feel that the Roth IRA is the way to go, but I have been talking to a few people who strongly suggest I invest in the 401k and eventually open up an additional Roth IRA.

It would be difficult to make a recommendation based on the information you have provided here. Do the people to whom you have been talking know your overall tax situation, your target asset allocation, your retirement goals and the expenses associated with each option?

It would be good to understand the reason why folks are making recommendations to you. Tax efficiency? Low expenses? Liquidity?

Question: Would contributing to a traditional 401K benefit someone who has a lower AGI? Maybe. Link to Retirement Topics - Retirement Savings Contributions Credit (Saver’s Credit) (Follow on question, does the individual pay enough taxes for the credit to do any good?)
Savers credit

At what age do you plan to retire? Prior to 59 1/2? What will your retirement funding sources be prior to reaching 59 1/2? (Retirement prior to 59 1/2 is another good reason to invest in something outside a traditional retirement vehicle.)

401Ks are not automatically the wrong choice, but it is important to understand the expenses associated with them. Often times, there are limited investment choices available in 401Ks which don't fall in line with your asset allocation. Some employers offer both traditional 401Ks and Roth 401Ks--know what you are signing up for. Your homework assignment is to research what your company offers. Compare what your employer offers to what other options you could otherwise invest.
Here is a link to Brightscope which gives you ratings on 401Ks You still have to do your above homework, but the website is interesting to compare your 401K to others.

[STRATOCASTER17]

It would be extremely nice to retire at age 50, I know this will be a difficult task, but life is meant to be lived not worked through. I think its a goal that can and has been accomplished.

Their main reasoning is that they think I shouldn't have so much cash sitting in a savings account. Max out 401k and put remainder into a Roth IRA. I currently live in NJ but I do not plan to retire here. So if I chose to move to a lower tax state than NJ, I wouldn't be hit as hard in my 401k.

What should I look into invest in something outside a traditional retirement vehicle?

[Nika]

ROTH

Because you are 25. That money has a long time to grow, means most of the money in your account at retirement will be from growth, not from the original principal, and than it is sweet to have no taxes on that 34+ years of growth. So the younger you are and the longer your retirement horizon, the more ROTH makes sense over 401k (IF you have to choose only one and if there is no match).

Second point is, you are at the beginning of your career, your salary and tax bracket are likely to go up as you progress, so you are not loosing much in tax deduction now anyway.

And thirdly, ROTH contribution can be accessed penalty free if you later decide that want to use them to buy a house.

[STRATOCASTER17]

so roth seems to be my decision along with all the great advice given here.

Is there a particular company people on this forum over another? I was thinking TD or Vanguard. My 401k booklet had a section, where if you weren't sure how to invest you could pick a time frame, say 25years from now I wanted to retire I would pick the 2040 plan and they would adjust my investments as they see fit as far as risk. I was hoping to find something like this because I know 0 about investing.

[Petunia 100]

so roth seems to be my decision along with all the great advice given here.

Is there a particular company people on this forum over another? I was thinking TD or Vanguard. My 401k booklet had a section, where if you weren't sure how to invest you could pick a time frame, say 25years from now I wanted to retire I would pick the 2040 plan and they would adjust my investments as they see fit as far as risk. I was hoping to find something like this because I know 0 about investing.

Personally, I love Vanguard. Most fund families these days do offer target retirement funds. They aren't all created equal, some are much better than others. Vanguard's target retirement funds are excellent.

[snafu]

It needn't be an 'all or nothing' program and long term savings can be modified and adjusted as time and economy shifts over 35 years. I suggest looking at David Bach's 'The Automatic Millionaire' to understand some basic investment strategy and planning. If your tax bracket is low there are important advantages in ROTH. You can open a 401K when there is a better tax advantage. Since compounding over a long time is the most significant factor, low cost Vanguard Index Mutual Fund using automatic monthly contribution makes sense. Allocation can easily be adjusted/re-directed in the future.

If you manage cash flow you will stay in control of your money rather than money controlling decisions and options. Making the right decisions that benefit you long term is critical. You may not have an employer sponsored 401K now but you may have one sometime in the future. If there is any matching employer contribution it's important to capture that free money. It's also important to know the fees and ranking associated with any investment as they have huge variance and significantly lower your profit.

Currently with savings rates so low, they are not keeping up with inflation. We must keep easily accessed savings for and Emergency Fund and short term savings for planned purchases but there is too much risk in savings instruments like CDs, Bonds, Bond or Income Funds long term just now.

[Gailete]

I guess I got lost in what I read in the first paragraphs of the OP post.

After taxes I bring home $2000 a month. I am the type of person that calculates all their expense down to the penny, because early retirement is my ultimate goal. I currently live at home with my girlfriends parents.

My monthly expenses come to $650 each month. This includes car insurance, cell phone, gas, eating out, buying misc. items, gym membership, etc. I use my credit card for everything (for the rewards points) and pay it off in full each month.

What are you paying for living at your girlfriends parents home? What are you putting towards your own home/apartment? Why aren't you living on your own yet? You certainly seem to be earning enough. Maybe you just forgot to mention that you are forking out $XXXX a month for room and board, laundry services, utility bills and what ever they may be providing for you.

Saving for retirement is a wonderful goal, however supporting yourself, truly supporting yourself which it doesn't sound like you are doing yet, is something that should come first and not at the expense of someone else' retirement, namely the girlfriend's parents. How are they going to feel when you break up some day and they realize that they have been supporting a non-relative for however long and the money for your additional expenses is gone and not to be recovered.

That all being said, I would recommend a Roth IRA only because if needed you can tap all that you put into it (excluding what interest it grows) and can be used without penalty or fees to subsidize a house purchase or some way to live in your own place. A dream every young adult should have close to their heart is their own place to live even if it is the back of a van or a tent. So you can save for retirement and housing down payment all at the same time.

None of this meant to be nasty or rude, but written by an older person who has seen too much of what goes on in the world.

[rennigade]

Why not both? Max your roth first...then work on your 401k...at the very least contribute to your 401k whatever percentage your employer matches, if they do match at all. I was around your age when I started maxing both. Im 30 now...they have grown quite a bit since then.