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Yes, you've hit on one of the big reasons the calculation isn't so simple.
Here's another one: You can structure how you receive the income from a traditional IRA so that you take less taxes. For example, you can limit what you take in a given year to lower your taxes for that year.
Some of my friends have hedged and put 50% in Traditional and 50% in Roth.
Somehow the rest of my post got clipped...but you hit on some of my other questions, too.
1. Is there wisdom in hedging and putting 1/2 in one and 1/2 in the other. Hedging against future tax uncertainty, for one...and also noting that some of the flexibility advantages (not being forced to take a distribution) have diminishing value. (It's great to not have to have a forced distribution for 1/2 of your money, but less valuable for the other half...most are going to want to take some distributions anyway)
2. Is there a motivation to invest your traditional IRA more conservatively than your Roth IRA (while still achieving your desired level of diversification)...since the traditional IRA will be taxed, and your Roth won't.
3. Can you "game" the system by taking 1/2 of your income from a traditional and 1/2 from a Roth..minimizing the tax penalty of a traditional, and maximizing the tax advantage of the Roth (since you will be taxed on 1/2 of your total distribution, which would fall in the lower tax brackets...all of your Roth distribution will have the advantage of avoiding the higher tax bracket rate)
etc., etc.
So, in deciding what types of investment vehicle to use, I have to consider all of this...And right now it seems like some mix is best.
One perceived advantage of the Roth is that you can contribute more value in a given calendar year since they have the same $ limits but different tax rules. I'm not sure how that all works out if you invested the difference in a non-sheltered account (and really had the discipline to leave it alone)...
For me I think I have more $$ to put in than I have room to work with, so I'm leaning towards contributing to all of my accounts (401k, IRA (x2), SEP 401K (spouse)) as Roth (to get the maximum value in the tax advantaged acct), but only if it makes sense...
In a 401K, if I contribute 10K, I get 10K in working capital. In a roth IRA, i get to start off at 6K instead of 10K because 4K went to uncle sam and auntie sally.
Well, be careful there.
Let's say your marginal tax rate in both cases is 20%, just for simplicity.
If I put in $5K in my Traditional IRA. I get a present deduction and pay 20% less tax today. Then let's say my IRA gains 150% before I retire, and then I pay 20% tax. That means I will have $12,500 and then will pay 20%, netting $10K.
Let's say I instead put $4K in my Roth, which is based on $5K present income. Then my IRA gains 150%, so I have $10K.
I'm in the same net position. The difference is that I can actually put $5K in my Roth, so it's like having a Traditional IRA of $6250.
However, note that the Traditional IRA still lets you pay the 10% and 15% brackets on withdrawals, and you can structure the withdrawals too.
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I have read a lot of web articles on how to decide between a traditional and a Roth IRA. While there are many complexities, one of the big "rules of thumb" seems to be that if you expect to be in a higher tax bracket when you retire than you are currently, use a Roth, otherwise use a traditional. For example (plucked from a web page):
"Again, if the taxpayer were in the same tax bracket before and after retirement, there would be no benefit or advantage to either IRA."
This is a point I have considered many times, and one I have discussed with "knowledgeable" people, and have never had a satisfactory conclusion. Admittedly, my understanding of tax law is limited, but as I understand it, the marginal tax bracket is most important on the contribution side, and the average tax bracket (if that makes sense) is what matters on the distribution side. By way of example, if an individual can afford a $4000 contribution in pre-tax dollars, and is in the 25% marginal tax bracket, consider the two investment options.
1. Invest $4000 in a traditional IRA, with no taxes deducted.
2. Invest $4000 - $1000 (25%) in a Roth IRA.
When it comes time to take a distribution, assume the person is in the same 25% marginal tax bracket. For the traditional IRA, the first portion of their income (I presume) is taxed at 10% the next portion at 15%, and the rest is taxed at 25%. (this is, of course, assuming tax brackets stay the same). Compared to the Roth IRA which paid 25% tax on all contributions, the traditional IRA paid