Working daily to become a Millionaire
The premise of which workplace plan to select assumes that you have a workplace plan available to you. If you own your own business, you can start your own plan.
There is a statement and a common sentiment among Americans that says: “You can’t get rich working for someone else.”
Although most uber-wealthy people are entrepreneurs or own businesses, becoming a millionaire is achievable by working a traditional job without being a business owner or a real estate mogul. Recent Ramsey Solutions Research shows that investing in retirement plans is the #1 contributing factor to millionaires’ high net worth. Their study of over 10,000 millionaires revealed that 79% reached millionaire status through their employer-sponsored retirement plan.
Which Plan to Choose
Based on the data noted above, it’s clear how important it is to participate in your retirement plan with work. Let’s shift our focus to which plan you should select.
The leading choice for most participants is whether to make pre-tax or post-tax contributions, which equates to a Traditional Plan or a Roth. The most common employer-sponsored plan is a 401(k), but 403(b)’s is usually the plan of choice for healthcare employers, educational institutions, and not-for-profit organizations.
Another common plan for small businesses is a Simple IRA, which previously only allowed pre-tax contributions, but starting this year (January 2023), Simple plans also allow Roth contributions.
All of these plans can match contributions, so if you are torn on whether or not you are better off choosing a traditional or Roth option, either way, maximizing the match your company offers is always a better choice than not participating.
As I mentioned, some employers do not have a retirement plan. If so, consider asking your employer to start a payroll deduction IRA. This only costs the employer minimal administrative work, so an employer may not be too resistant to start doing this if prompted by employees. If you are employed and no option is offered, you can start your retirement account. For example, you could open a Roth IRA and set up recurring contributions from your checking account. This is not as easy as having it come from your paycheck, but it is the next best thing.
Roth vs. Traditional plans
There are income limits that limit or prohibit your ability to make Roth IRA contributions once your income reaches specific amounts. Refer to the chart on this website for specific income and contribution limits for 2023. If you are a high-income earner, this article from Financial Advisor Stephen Armstrong walks through techniques that you could use to still be able to contribute to a Roth.
With workplace plans, there are no income limits to participate. High-income earners can make a plan top-heavy, and their ability to participate may be reduced, but that is a topic for another article. So, the Roth option is an excellent opportunity for employees in the higher tax brackets who strongly want to accumulate tax-free income. In general, the younger you are, the more the Roth is beneficial, and the older you are, the benefits may be less beneficial. So, an employee in their 20s or 30s selecting the Roth option is a no-brainer because of the number of years that your plan can grow tax-free, saving those individuals a vast amount of tax dollars in retirement.
At the other end of a working career, an individual that is in their late 50s or early 60s, nearing retirement, and in a high tax bracket, it almost always makes sense for them to do a Traditional plan and take the generous tax deduction, then likely withdraw at a lower rate a few years later. A caveat for an employee in this position is if virtually all of their savings are in pre-tax plans, and they have a large sum accumulated (at least $500,000), then they may want to accumulate some tax-free dollars to reduce their tax burden while in retirement and reduce the risk exposure to the government raising income taxes in the future.
For employees in their 40s and early 50s, choosing a Roth or Traditional plan is less clear-cut and more nuanced. Without laying out several variables that could tilt this group one way or the other, if you are in the 12% tax bracket (married filers with income below $89,450), it still is usually best to go with the Roth. These individuals get less upfront savings on taxes and likely will withdraw in retirement at the same and relatively likely at a higher rate. The current tax rates will increase for everyone starting in 2026 unless Congress acts, so this is another variable in your decision-making process.
Can I do both a Roth and a Traditional?
Yes. Many employees like the benefits of both options, so it does not have to be an all-or-nothing proposition.
For instance, splitting their contributions would make sense if a 50-year-old in at least the 22% tax bracket has already accumulated a decent amount of pre-tax dollars and wants to start accumulating tax-free dollars. An individual in this position would still have relatively high expenses and may want their contributions to stretch further by having them withheld before taxes come out. Yet, they have never started a Roth IRA and want the flexibility or tax-free income, so if they contribute 10% to their 401(k), doing something like 6% Traditional and 4% Roth could be a good compromise. Although Americans can split their contributions to any percentage they wish, the combination is still subject to the IRS contribution limits of $22,500 for workers under 50 and $30,000 for workers over 50 in the tax year 2023. So, splitting the contributions is not a loophole to contributing more.
What if I have a pension?
Congratulations, you are among the few as pensions continue getting phased out of retirement. Only around 10% of private companies still have a pension, but most government positions have one. A payroll deduction plan is also an option in either of these cases. Remember that all pension income will be taxable, so doing a Roth option as a supplement would be a good idea. Although pensions may provide a solid retirement income level, they are not flexible and can’t be customized. Like social security, you are told how much income you will receive and when. So, varying withdraws due to your schedule, taxes, need, or several other life events is not an option, so participating in defined contribution plans (Traditional or Roth) through your work makes sense so that you have some flexibility and choices in varying your income as needed in retirement.
How much are we saving in taxes by participating in my workplace plan?
Whether contributing to a Traditional or a Roth plan through work, you will save tax dollars. Many Americans will have a working career of at least 30 years and the option to participate all those years.
So, if a worker contributes an average of $10,000 per year for 30 years and makes a 7% return*, those dollars will compound to $1,016,638. So, if you are doing a Traditional (pre-tax) Plan, you save whatever $300,000 of contributions times your tax bracket equates to, but you will pay tax on all your withdrawals. If you flip this same example to doing a Roth option, you will pay tax on $300,000, but all your withdrawals are tax-free. So, obviously, if you participate for several years, you will pay considerably less in overall taxes doing the Roth option.
Participate and be disciplined
In summary, focus on your positive opportunity if you have a workplace retirement plan. Sign up on Day 1, and take full advantage of the match. Do not take loans or pre-mature distributions are universal good decisions, regardless of your plan or how much total you contribute. Related to contribution levels, Dave Ramsey recommends saving 15% of your total income. If you are wondering the best way to structure that 15% savings, refer to this video from our Chief Operating Officer, where she walks through how to structure your retirement savings when you have an employer plan and when you don’t.
If you have questions about which workplace plan is best for you or if you should be contributing more to another option, contact one of our financial advisors today to clarify the best option(s) for you and your situation.
*The annual rate of return given in this article is used for informational purposes to illustrate an example. This is not a guarantee of return.
Which Workplace Retirement Plan Should I Select?
September 1, 2023
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