Do you have, or are you considering using a traditional or Roth IRA or 401K to help fund your retirement? Do you ever wonder which is best or makes the right sense for you?
I often use an analogy with my clients to help them make better sense of things. The analogy goes like this: If they are buying a home, or are about to, I ask them which kind of loan they think makes better sense for them — a fixed loan of 15 to 30 years with a level guaranteed interest rate, or an adjustable rate mortgage, or “ARM.” Almost always they say they want the fixed one. When I ask “why,” they always say because they want to know exactly what they are getting and do not want the lender having the right to simply and arbitrarily raise their interest rates down the road. Many people feel this way.
I then remind them of how a traditional 401K or IRA works, where we are either using pre-tax contributions with a 401K, or tax-deductible contributions with an IRA, and how the values grow tax-deferred until retirement when withdrawals are 100 percent taxable and the taxes that are owed, will be based upon the tax rates that are in place at that time by the government. Traditionally speaking, people have used this strategy, because it was thought that when you retire, you will be in a lower tax bracket. Really? Says who? Who has a crystal ball? I also remind them how the Roth concept works, where they make contributions with after-tax money, and as long as they are at least 59½ and have had had the account for at least five years, they can pull all both their principal — and the gains/interest earned 100 percent income tax-free.
What we do know is that right now, and it’s been that way for a while, is that we are historically, in a really low tax period, compared to other times in our history. For example, around 1944-1945 (World War II), the highest bracket was over 90 percent! From 1951-1964, the highest bracket was right at about 90 percent. From 1969-1980 the highest bracket was about 70 percent the whole time.
Who’s to say, with our country being trillions of dollars in debt, taxes won’t again, go sky high some day? If they do, is that when you will want to be pulling money out of that traditional 401K or IRA? Probably not, right? But if you are at the age of 70½ and older, you will be required to take a “Required Minimum Distribution,” or “RMD,” and if you don’t, the government will add insult to injury by not only making you pay the tax, but they will also add a 50 percent penalty on the amount that should have been withdrawn.
So the point is this: If you don’t want a flexible, adjustable rate mortgage to prevent your lender from significantly and arbitrarily raising your interest rates on your home loan, then why would you not want to apply this same philosophy to your decision on whether to use a traditional or Roth 401K or IRA?
For those who have the fortunate problem of making too much money to contribute to a Roth IRA, but still desire to do so, they may wish to take a serious hard look at using a specially designed Indexed Universal Life Insurance Policy as a powerful “work-around.” These policies can in addition to providing a tax-free death benefit, accept very large contributions without all the same restrictions, and create very substantial tax-free income. In addition, they can provide the upside of stock indexes like the S&P 500, but with no downside market risk.
Every person’s situation is different of course and one should look closely at things with their trusted insurance and financial advisers, CPAs, etc.
Todd Radwick, DIA, and president of Radwick Financial Group LLC is an insurance and financial adviser based in Winthrop and serving all of Washington. He can be reached at 996-3425 or by viewing his website at radwickfinancial.com.