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The Roth debate, continued

By Barbara Whelehan ·
Tuesday, September 7, 2010
Posted: 9 am ET

Should you invest in a Roth or traditional? Whether we're talking about a Roth IRA vs. a traditional IRA or a Roth 401(k) vs. a traditional 401(k), it's not a slam-dunk decision because the benefits aren't immediately apparent.

With a Roth IRA or Roth 401(k), you invest after-tax money. It grows in the account and is generally withdrawn at retirement tax-free. We don't know what the tax rates will be in the years ahead, the argument goes, so why not pay tax at current rates in case they go way up? (With a Roth IRA, you don't ever have to take the money out. You can bequeath it to your progeny if you like.)

With a traditional IRA or 401(k), you generally get a tax deduction upfront, and the money grows in the account on a tax-deferred basis. You don't pay taxes until you withdraw it.

But what if you can save on a pretax basis and then get the money out without paying any taxes at all? This was the topic of a column penned by Fred Reish, managing director and partner of the Los Angeles-based law firm of Reish & Reicher. In his column, "Roth is wrong -- for some people" which appears in the August issue of Plansponsor Magazine, Reish makes the case that most people should save at least $400,000 on a pretax basis before contributing to a Roth. At retirement, assuming you withdraw 5 percent per year, or $20,000, you don't have to pay any taxes on the money you saved pretax.

His thesis was the subject of my blog, Roth retirement decisions, which generated several critical comments questioning the analysis. The main outcry: The calculation doesn't take into account Social Security or other earnings. I wondered about that and sent an e-mail to Fred Reish asking for his thoughts. It turns out that he did take Social Security into account. He supplied this work sheet, which shows how the IRS calculates Social Security and other income for the purpose of determining what benefits are taxable.

The work sheet illustrates the earnings of a couple. They received $15,000 in Social Security benefits, only half of which is subject to taxation. It also shows other income, which for purposes of illustration, consists of withdrawals from a traditional IRA. Because the combined income adds up to less than $32,000, the withdrawals are not subject to tax.

According to the Social Security Administration, "Some people have to pay federal income taxes on their Social Security benefits. This usually happens only if you have other substantial income (such as wages, self-employment, interest, dividends and other taxable income that must be reported on your tax return) in addition to your benefits."

What's substantial income? This is a little mind-numbing, courtesy of the IRS, so bear with me. For single individuals, if the total of one-half of your Social Security benefits plus all your other income is between $25,000 and $34,000, you may have to pay income tax on up to 50 percent of your Social Security benefits. If it exceeds $34,000, up to 85 percent of your Social Security benefits may be subject to tax.

For married couples filing jointly, if the spouses' combined income is between $32,000 and $44,000, then half of their Social Security earnings may be subject to tax. If it's more than $44,000, then up to 85 percent of Social Security benefits may be taxed.

To reiterate: In the example that Fred Reish supplied, a married couple who received $15,000 in Social Security benefits plus $20,000 in taxable income would not have to pay any tax. Social Security was taken into consideration when he penned that column.

As I said before, the tax system may change in the future. But for now it looks like those people who engage in retirement planning and who expect to live fairly modestly should think twice about the value of paying taxes up front via a Roth.

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September 08, 2010 at 10:05 am

My bad, the standard deduction does apply unless someone claims you as a dependent. Those forms are confusing.

Barbara Whelehan
September 08, 2010 at 9:41 am

Bruce, I admit I'm no tax expert. But I did read enough of IRS Publication 915 to see that if you receive a modest taxable pension and Social Security income, you can escape tax. See the example on page 8 of that publication, which you can download from Thanks for writing.

September 08, 2010 at 9:36 am

Think this one again. You only get the full standard deduction to the extent that you have EARNED income. Pensions, retirement withdrawals, and social security are not earned income. Thus, without any other earned income (in other words,unless you still work), the standard deduction is only $950. You might itemize and get a large deduction, which would work in a high tax state or if you still have a mortgage in retirement.

September 07, 2010 at 2:36 pm

I am not sure how old your dad is but "meager" pensions seem to be a thing of the past. LOL

September 07, 2010 at 2:30 pm

I guess the survey is the case in numbers.

For the people that don't have a lot saved for retirement that you reference in the survey than the roth debate is a moot point anyway. They usually don't have the money to convert and pay the tax or to save in a roth.

Unfortunately, the utility of the roth is really only going to benefit the "rich" and not the 90% in the survey anyway.

The point is that the $400K article is a theoretical debate bringing attention to the fact that SOME retirement assets should be in a non-roth if you will have a modest retirement and other variables exist. The article should not be meant as a rule of thumb since everyone's tax scenario is completely different. The concern is that giving specific numbers ($400K and $20K) makes it appear as a rule of thumb and not a tax theory.

Barbara Whelehan
September 07, 2010 at 2:09 pm

Hi Jack -- I agree that retirement is a very complicated topic, and that nothing applies globally. Everyone's situation is different, and it's best to get advice from a financial professional that addresses issues unique to each individual. But if you believe the results of the 2010 Retirement Confidence Survey from the Employee Benefit Research Institute and Mathew Greenwald Associates, two-thirds of Americans have less than $50,000 saved up for retirement, and only about 10 percent have $250,000 or more saved up. So unless their savings habits change dramatically in the future, most people are going to have to learn to live on a lot less than $35,000 a year. They'll have to save string and wash their aluminum foil after each use, as fellow blogger Jennie Phipps says her mother-in-law does! And my own dad can subsist on his (meager) pension income and save his Social Security check each month. At least, he was able to do this when my mother was up in Chicago for a year helping out my brother and his family some time ago. And my colleague claims he spends only $15 a week on groceries. I spend ten times that. So everyone is different. Anyway, thanks for your comments.

September 07, 2010 at 1:52 pm

I do appreciate that you are presenting the dialouge so that people can think about roth's.

Unfortunately, this is a VERY complicated decision since there are so many variables and so many assumptive guesses.

It is always hard to give helpful financial advice on a global scale.

September 07, 2010 at 1:39 pm

I would like to know what couple can live off of $35,000 a year in retirement? Medical care alone can eat up $10,000 a year with co-pays, premiums, deductibles and uncovered services.

Remember, accurate projections are for the future, NOT a retired couple scenario today. You have to hope that the IRS will ratchet up the phase in for social security while being in step with inflation.

There should be some non-roth assets at retirement to take advantage of future deductions, etc, but realize that $400,000 isn't enough to retire on unless you are inside of 5 years. If you are inside of the 5 years the entire roth conversation is a moot point anyway since you don't have that many years left to save.

Also realize that most couples, especially in future years have much more in social security and pension income than $15,000 a year.

Bottom line, the example is TOO simplistic to be accurate advice for readers. As I have said before, it is a very complicated forecast.