09: Avoiding the Tax Trap by Diversifying your Retirement Savings with Jason Clevlen

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In this episode, hosts Jack Marino Jr. and Jason Clevlen discuss the differences between Traditional and Roth retirement plans. They talk about what listeners may want to consider when faced with the decision of which type of IRA or 401(k) to make contributions to, how to make contributions, and what types of investments can be held in these commonly used retirement plans. They also discuss ways for high-income earners to make Roth contributions and how strategies such as tax bracket maximization and tax diversification can potentially reduce your tax bill in the future.

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Show Quote

"The future depends on what you do today."

-Mahatma Gandhi

Resources Proactive Tax Diversification Cheat Sheet -– Download this helpful one-page document from Lake Hills Wealth Management which shows how tax diversification can help reduce income tax in the future along with the common Retirement plan contribution limits for 2019 and 2020.

Key Takeaways 

1) The biggest difference between Traditional and Roth retirement plans is their tax treatment.

2) Tax bracket maximization can carry huge benefits and requires thought and planning with your tax professional as a guide. 

3) By diversifying your assets from a tax perspective, you get flexibility and control over how much you pay in taxes later in life.

Show Notes
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[2:45] – What are Individual Retirement Accounts or IRAs and 401(k)s?

They are the most common types of retirement accounts out there.
From an investment and tax deferral perspective, 401(k)s and IRAs are very similar. They offer tax advantage savings to save for retirement, they have the potential for tax benefits now or in the future.
The big differences are when taxes are paid and funding limits.
Solo-401(k)s are for solo-entrepreneurs (no non-family employees).
Companies with employees can offer a 401(k) plan.
IRAs can be opened by anyone and can be funded regardless of having an employer.
The investment product and returns can be the same, no matter which type of retirement plan is chosen.
These topics can be complicated and you should seek the advice of a financial advisor and a tax advisor when making these decisions.
Go to profitstowealth.com/contact to submit a question.

[8:22] – What’s the difference between Roth and Traditional?

The difference is tax treatment. With a Roth plan, the person is making the decision to pay income taxes on the contribution amount in the year of contribution in exchange for tax-free tax treatment on the growth of their investments.
The benefit there is tax-free qualified withdrawals in the future.
To get those tax-free withdrawals you have to be at least age 59.5 and you have to have had the account for a five-year period.
With the Traditional IRA and 401(k), a person is making the decision to receive an income tax deduction today for the contribution amount. Then their investment grows tax-deferred until withdrawals are taken. The withdrawals will be taxed as ordinary income tax and the rate will depend on whatever tax bracket they happen to be in at that time.
We can’t control the tax rate but we can diversify.
There big differences between IRA and 401(k) when it comes to funding limitations.
The 401(k) has no limitation on income.
The Roth IRA has income limitations that depend on the amount of your household income. In 2020, if a person is married filing jointly and their modified gross adjusted income is less than $193k, then they would be eligible to make the full Roth IRA contribution for the 2020 tax year.
Anyone can fund a Traditional IRA but there are some circumstances where the deductibility of that contribution can be lost.
If a person is under 50, then the total amount they can put into an IRA is limited to $6k as of 2020 (can be more if age 50 or older).
With 401(k), you’re limited to a $19,500 contribution in 2020. Contributions can be directed towards Traditional or Roth (can be split into both but cannot go over the annual funding limit).

[16:25] – How do I decide how much to put into the Traditional portion and how much to put into the Roth?

Ultimately, it’s a tax decision. Do you want the tax benefits now or later?
Generally, someone would need to consider what their current marginal income tax rate is today vs a future expected income tax rate.
Generally, the preference is to pay the lower tax rate.
You can also think about this from a cash flow perspective.
Most people don’t actually invest the tax savings when contributing to the Traditional, they spend it. In which case they would have been better off having done the Roth regardless of what the math shows.
Financial planning is more of an art than a science because you have to make a lot of assumptions.

[22:57] – H

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