Are you planning on retiring poor? That is an important question to ask yourself when choosing between a Roth and a Traditional investment account. Let’s discuss.

When you open an IRA or a 401(k), you are given a choice: Roth or Traditional.

A Roth means that you put money into that account after it has been taxed by the government on your paycheck or on your tax returns. This means the government can suck it when it is time to withdraw that account in your retirement.

A Traditional account means that you put money into the account before it has been taxed by the government.  This means that you can suck it when it is time to withdraw that account because the government will be helping itself to your retirement.

Make no mistake: the government WILL take its cut of this money. It’s not if. It’s when. Which puts the question to you: When is this tax better for you and your family?? In most cases, the ideal answer is right now.

When I was first given the choice between a Roth and a Traditional 401(k), I remember having this conversation with myself:

Self, do I plan to be in a higher tax bracket when I retire? 

You bet your booty I do! I plan to have to order one of those extra booklets for my passport because it is so stamped up with exotic stamps! Damn yes. I plan for wealth. 

This is why I am a big fan of Roth over Traditional retirement accounts!

If you retire poorer than you are now, you will be in a lower tax bracket. With a Traditional 401(k) or IRA, the government will take a smaller piece out of your withdrawal than it would if you were wealthier, but it will still be a piece of the whole pie. This will hurt considering it is the last pie you are going to bake.

However, if you retire with wealth, you will not want the government taxing your lump of cash when it matures! You will be in a higher tax bracket, no matter who is President, and that will mean a bigger chunk for the government.

But imagine if you have a Roth! Your account reaches maturity, it is humongous, and you withdraw it in its entirety with a big middle finger to the government!

Of course there are some disadvantages to a Roth account. You take home less money in your paycheck during your earning years and that can hurt. You also miss a chance to write off this investment on your annual tax return if you have an IRA. But this is a classic example of delayed gratification resulting in a bigger payoff. Let’s run the numbers.

Say you invest just $1,000 in a retirement account in a year that you are in a 25% tax bracket. With a ROTH, you will have paid 25% tax on that money. With a Traditional, you will have paid none.

Now let’s say that investment does moderately well. With compound interest around 5% for 20 years, that $1,000 will be worth over $2,600. Let’s say you are wealthy in retirement (because you’re a great CHO!) and are in a 33% tax bracket. So:

Do you want to pay 25% on $1,000 when you are still working with a Roth? That costs you $250.

OR

Do you want to pay 33% on $2,600 when you are about to retire with a Traditional? That costs you $858.

These are small numbers for example’s sake! Consider that most withdrawals at age 65 range from $743,000 to $3,500,000 and imagine taxing that stash! No thanks! I’ll take the small regular tax hits while I am still earning any old day!

I will grant you, this takes some juevos. You have to believe that you are going to do well into retirement. You have to be willing to live on less cash today in order to have more down the road.

How can I know for sure that I’ll be wealthy in my Golden Girl years? Of course I can’t but I believe in my family and my ability to make conscious investments! Stick with me and you will too!

Next up on the CHO management crash course:

• What do I do with those investment accounts?
• How actively should I manage my investment accounts?
• How can I budget for contributions to investment accounts?

Want updates when those posts are written? Sign up for my newsletter below!