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Retirement Contributions Explained

Updated: Sep 19, 2023

Article Sections:


Types of Contributions


When it comes to retirement savings, there are several different types of contributions you can make to your retirement account. Each contribution type has its own set of rules and regulations, and it's important to understand the differences in order to make the best decisions for your individual financial situation. In this article, we will explore the different types of contributions to retirement accounts, including a Roth IRA, Traditional IRA, Traditional 401(k), and Roth 401(k).


Roth IRA Contributions

Roth IRA contributions are made with after-tax dollars, which means that you pay taxes on the money you contribute upfront. However, when you withdraw the money in retirement, you do not owe any taxes on the contributions or the earnings.


2023 Contribution Limit: $6,000

2023 Catch-Up: $1,000 (age 50 or older).

Income Limits: $140,000 (Single) $208,000 (Married)


Traditional IRA Contributions

Traditional IRA contributions are made with pre-tax dollars, which means that you do not pay taxes on the money you contribute. However, when you withdraw the money in retirement, you will owe taxes on both the contributions and the earnings.



2023 Contribution Limit: $6,000

2023 Catch-Up: $1,000 (age 50 or older).

Income Limit for deductible contribution*: $73,000 (Single) $116,000 (Married)


*Limitations apply if you are covered by an employer sponsored plan.


Traditional 401(k) Contributions

Traditional 401(k) contributions are made with pre-tax dollars, which means that you do not pay taxes on the money you contribute. However, when you withdraw the money in retirement, you will owe taxes on both the contributions and the earnings.


2023 Contribution Limit: $20,500

2023 Catch-Up: $6,500 (age 50 or older).

Income Limits: None


Roth 401(k) Contributions

Roth 401(k) contributions are made with after-tax dollars, which means that you pay taxes on the money you contribute upfront. However, when you withdraw the money in retirement, you do not owe any taxes on the contributions or the earnings.


2023 Contribution Limit: $20,500

2023 Catch-Up: $6,500 (age 50 or older).

Income Limits: None


 

Application


When deciding which type of contribution to make, it's important to understand the taxes you will pay on a ROTH contribution today versus what tax rate you might pay at the time of withdrawal in a traditional account.

It is never a perfect calculation and generally, if you are a high income earner now (at the 32% marginal bracket or higher), it may be to your benefit to make traditional retirement contributions. This assumes that your retirement income will be taxed at a lesser rate than 32%.


If you are in the 24% margin today (or lower), where many married couples are making between $190,750 & $364,200 (2023 24% marginal bracket), then you may strongly consider the fact that your marginal tax bracket in retirement may stay the same or increase, particularly due to the fact that the Trump era TCJA of 2018 has only temporarily lowered tax brackets for those in this bracket. This potential fact may make ROTH retirement contributions optimal for you in the years leading up to retirement.


It's worth noting that our nation's poor fiscal management and ballooning debt will likely require taxes to be higher for longer in the future.

If your employer offers ROTH contributions, and you've not yet built up a tax-diversified retirement savings (meaning, developing some lever to pull in retirement which will not increase your income tax liability), then we strongly advise you develop a ROTH savings plan in the years leading up to retirement.


There may also be opportunity to engage in a ROTH Conversion plan as part of your retirement income plan. A carefully crafted ROTH Conversion plan might have you convert dollars to ROTH accounts at the onset of retirement if you're within certain income limits. This plan is deployed in an effort to minimize tax-risk in the future and reduce overall taxation in retirement.


Overall, the type of retirement account and contribution types you choose will depend on your individual financial situation and retirement goals. Understanding the differences between each type of contribution can help you make informed decisions and maximize your retirement savings. It's important to consult with your financial advisor to determine the best strategy for your specific needs.


 

Biblical Wisdom on Taxation:


The Kingdom worldview suggests that we should pay taxes joyfully, as taxes owed to the government are a sign of God's provision in our lives. Yet as good stewards, we shouldn't strive to pay MORE than is owed to Caesar. Wise tax management (minimizing taxation) has a role, but we should certainly first consider the command of Christ in Mark 12:17:


Jesus says, "Render to Caesar the things that are Caesar's, and to God the things that are God's" (Mark 12:17, ESV).


Paul echoes the Lord's teaching in his letter to the Romans:


He writes, "Pay to all what is owed to them: taxes to whom taxes are owed, revenue to whom revenue is owed, respect to whom respect is owed, honor to whom honor is owed" (Romans 13:7, ESV).



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