Tax Now or Tax Later?

Over the years I have heard discussion on whether one should invest in tax deferred structures where on is taxed now or where one is taxed later.

I would probably be able to give my typical response to this dilemma in one word. Yes.

This response does not seem to answer the question. After all the question is directed at where one should invest one’s money whether it be a pre-taxed arrangement that grows tax-deferred and is taxed on the withdrawals such as a traditional-IRA, 401(k), 403(b), etc. or one should direct one’s money to areas where one pays the tax now, it grows tax deferred, and one is able to pull the money out at a later time tax free such as Roth IRA, Roth 401(k), etc…

Normally one would take a look at a number of variables including what one’s tax rate is now and what one would predict one’s tax rate is going to be in the future in order to determine the different effects associated with whether one should prefer to invest in one or the other. Of course, this presupposes that one is under the income limit so that one can be able to invest in a Roth IRA or has the Roth 401(k) option available to them.

I would have questions in regards to these assumptions in that one may have great difficulty in prognosticating the future and what the future may hold in regards to tax rates… Such questions also assume that one would have saved enough to be affected by the same marginal tax rate in the future. Given the rampant lack of savings throughout this country especially with people nearing retirement, I question how truly important it is to distinguish where one saves as opposed to how much one saves. Save as much as you can in either place, or preferably both places if that option is available to you would be more my inclination.

If you have the option of receiving a match from your employer for your retirement, I would suggest taking advantage of any free money that you can get by contributing to the matching amount accordingly. Secondly, once you have taken advantage of a match, if you are eligible, consider investing in a Roth IRA. After you have taken advantage of both, you may want to contribute the rest that you are able to contribute to your retirement plan. The reason associated with encouraging contributions to a Roth IRA is that this could provide greater flexibility in the future in terms of how one is taxed. It is not because one will necessarily have the best return when one looks at the tax rate ramifications. There are no guarantees. Having one’s money invested in a variety of areas could provide flexibility in the future.

Thus my full explanation of my yes answer. One does not know the future. That being said  savings, free money, and flexibility often seem like positive things to pursue.

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