Roth 401(k) for People Who Contribute the Max

[Updated on October 17, 2014 with a new example.]

I said in The Case Against Roth 401(k) I think for most people the majority, if not 100%, of the contribution should go to a Traditional 401(k). I gave these reasons:

  1. Fill in lower tax brackets in retirement
  2. Avoid high state income tax
  3. Leave the option open for Roth conversion in the future
  4. Avoid triggering phase-outs and AMT

I still believe these are valid reasons in favor of contributing to a Traditional 401k instead of a Roth 401k.

A few comments to that post said Roth is better because a Roth 401k lets you effectively shelter more from taxes than a Traditional 401k. That’s true. My response was that the higher effective maximum comes into play only if someone actually contributes the maximum allowed, currently at $17,500 per person per year.

According to a study by Vanguard, only 10% of people contribute the maximum. It’s not surprising because in order to contribute the maximum, you need either a high income, a high savings rate, or both. Consider a married couple. The combined 401k and IRA maximum contributions are $46,000 per year. At 25% savings rate, this couple needs an income of over $180,000. At 15% savings rate, this couple has to earn over $300,000.

What if you are one of the 10%? People who read finance blogs probably earn more and save more. What is the value of the higher effective contribution limit in a Roth 401k?

It turns out that for the marginal dollar, a Roth 401k is worth a few percentage points in marginal tax rate. That is if you contribute the marginal dollar to a Roth 401k and your marginal tax rate drops a few percentage points between now and retirement, you are still better off than contributing that same marginal dollar to a Traditional 401k plus putting the tax savings in a taxable account.

Say you are down to the last $100 which you can either contribute to a Roth 401k or a Traditional 401k. If you contribute to a Traditional 401k, you also get a tax deduction. But because you already hit the max, you cannot put the tax savings into the Traditional 401k. Your only choice is a taxable account. The Roth is compared to Traditional + Taxable because the assumption is that you maxed out the contribution limit. If you are not maxing out, you can always gross up the contribution to the Traditional account.

How much exactly is a higher effective contribution limit in a Roth 401k worth depends on a number of assumptions. I made a spreadsheet. You can plug in your own assumptions and see the result for yourself. Plug in some different assumptions and see how the results change.

For example, here’s one set of assumptions I used.

Marginal Tax Rate Now 35%
Marginal Tax Rate at Retirement 28%
Capital Gains Tax Rate at Retirement 15%
Tax Rate on Dividends 18.8%
Investment Return in 401k 8%
Dividend Distributions in Taxable Account 2%
Cost Advantage in Taxable Account 0.0%
Number of Years Until Withdrawal 30

And here’s the result: Roth Advantage: -0.2%

Roth 401k and “Traditional 401k + Taxable” break even if the marginal tax rate at retirement in 30 years is 28%, versus the current marginal tax rate of 35%. That means the higher effective contribution limit is worth about 7 percentage points.

Here’s the link to the spreadsheet if you want to play with your own assumptions.

Traditional Or Roth 401k

Finally, please note we are still talking about the marginal dollar here. The reasons for favoring the Traditional 401k are still valid for the majority of one’s retirement dollars. If you max out all your tax favored contributions, you still have to decide how much should go to traditional. Those dollars in traditional will fill in the lower brackets after you retire. They will also be converted to Roth along the way if you have a window of opportunity.

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  1. Anonymous says

    If you max out all your tax favored contributions then the amounts over the max which go into your taxable accounts will fill in the lower brackets when you retire. You don’t need to increase traditional contributions in lieu of Roth to get this advantage unless you are planning to depend 100% on your tax favored accounts in retirement.

  2. serbeer says

    thank you for this very interesting post. I am having hard time trying to reconcile it with the previous post on the subject though.

    Are you, basically, saying that most of the people who don’t contribute to the max would be better off contributing to traditional 401K–but those who contribute to the max are better off going Roth way as long as they don’t expect their tax bracket to be more than ~7% lower in retirement?

    Is it a good rule of thumb or it is overly simplistic? Is there better one you think?


  3. Harry Sit says

    serbeer – Unfortunately they don’t make it easy for everybody. You have to take both posts into consideration. Any rule of thumb will be overly simplistic but if I have to make one, I’d say,

    1) If you are not contributing to the max (that’s 90% of people out there), you are likely better off with the Traditional 401k, unless you fall into one of the exceptions (have good pension, expect substantially higher income, etc.)

    2) If you are contributing to the max, first make sure you create enough taxable income to fill in all the lower brackets. Just Social Security and dividends and capital gains from your taxable accounts are probably not going to be enough. Exactly how much you will need in the Traditional accounts is going to be a guess but make your best guess. After that, the contributions can go to Roth.

  4. jimslade says

    I’m going to expose my ignorance here, but how does the max get to 41k? I understand that my traditional 401k limit is $15.5k, so my wife and I can contribute up to $31k. I didn’t think that I can contribute to an IRA or anything else if I maxed my 401k. I have an IRA, but it is all pre-tax contributions, and I don’t want to mix pre-tax and taxed income in that account… am I missing something?
    thanks in advance…

  5. Harry Sit says

    Jim – $41k is made up of $31k to two 401k’s plus $5k each to two IRAs. If you are over 50, there’s another $5k each in catch-up contributions to 401k’s. Some people are eligible for Roth IRA. Some only eligible for non-deductible traditional IRA. You may not want to do non-deductible Traditional IRA but I still do it because additional tax-deferred space is still useful.

  6. Silicon Shadow says

    Good post. This topic is often lamented but I think you captured the issues rather well. One element you didn’t mention is matches, which many 401k’s have. Matching contributions are another way of saying “free money” and you are usually foolish to pass it up. So if you aren’t maxing out — that means you are likely missing a match $. Since its cheaper to put a dollar into traditional, but you still get the match, you should always contribute the full match amount at a minimum — in the traditional. If you can afford the full match amount in Roth, then the conversation reverts to what you’ve put forward in your posts. For my my employer matches a % of the entire contribution amount, which means I have to hit 15500 in contributions to get the full match. So its traditional first and then fill with roth if you want to “save more” (as you suggest).

  7. Harry Sit says

    Silicon Shadow – That’s a good point. Thank you for adding to the discussion. If someone is struggling to contribute enough for the full match, going Traditional is certainly a lot easier on the budget than going for Roth.

  8. Scott says

    Whoever thinks taxes are going to be lower at in the future is just not thinking, infact anyone thinking this, in my opinion has lost their mind!

    We are at a ALL time low over the last 30 years, as far as tax brackets. Right NOW we pay less taxes they we ever have in 30 YEARS!! ( fedral taxes) THAT IS A FACT!

    The IRS and congress are going to face a HUGE problem in the next 15 years with all the baby boomers. HOW do you think they are going to pay for all of SS benefits? How do you think they are going to pay for all the medicare? The list goes on and on……..

    I will tell you how………MORE TAXES!! Its a FACT and I garantee reguardless of who becomes president TAXES ARE GOING UP.

    So the person who wrote the post about you should invest in a Traditional 401 over a ROTH 401k is simply WRONG and should not be giving financial advice!

  9. Mark says

    You said:
    “So the person who wrote the post about you should invest in a Traditional 401 over a ROTH 401k is simply WRONG and should not be giving financial advice!”

    Can you clarify why investing in a ROTH 401k is better than investing in a Traditional 401k.

    To me, investing into a Traditional 401k using pre-tax dollars makes more sense. Am I missing something here?

    Thank you.

  10. Fred says

    So that spreadsheet….yah, why can’t I remove taxable investments? Show me the Roth benefit when there is no taxable to consider whatsoever.

  11. Fred says


    While a traditional 401k and Roth 401k will grow to the exact same total value, however the actual received value of the Roth will always be higher because you pay taxes on the traditional 401k withdrawal.

  12. KD says

    TFB, I wish you could add a few features to the spreadsheet. It would not doubt add to the complexity of the spreadsheet. Could it provide guidance on when you have enough in your lower tax brackets? I know this would entail knowing total savings as a percentage of the gross income and the various tax brackets. Possibly your current balance in various accounts too. Just something to think over. I really like this article and keep coming back to it again and again.

    I am in my late twenties and so I keep maxing out traditional 401k under the notion that my retirement income from current balance in the traditional 401k does not fill up the lower tax brackets at retirement yet. I do not contribute to a roth 401k.

    I hope I am taking the right lesson from your article. Please correct me if I am wrong.

  13. Harry Sit says

    KD – It’s more complicated than that. It’s not about what you currently have in a traditional account is already enough to fill the lower brackets. It’s about whether you *will* have enough to fill them. For someone in late 20s, if the salary is projected to increase at a good pace above inflation, a Roth 401k account may very well be better even if you don’t have much saved already. Current income can go to Roth and let future income go to Traditional.

  14. KD says

    Thanks TFB. I see your point. But honestly I don’t know if I am going to get raises higher than inflation, esp, considering I got my first job after my PhD and its only been a year in the job with a small raise to show for last year in which economy was not doing so well. Another thing, couple of decades from now who knows what the tax structure develops into, what benefits remain, what benefits disappear, ex, Social Security, how well do the investments gain, etc. With such uncertainties, the choice between trad 401k and roth 401k for me personally seems to be a dart throw. As you say, its complicated. May be doing, half and half is an option. May be continuing with trad 401k is easier than second guessing future benefit of roth 401k.

    As always, your excellent analysis on these issues is extremely valuable and worth a lot more than what one could get out of a paid professional.

  15. KD says

    SS and medicare taxes are strictly not taxes, but I wonder how they play into this debate. I increased my marginal tax rate to account for SS and medicare tax in the spreadsheet and it made Roth 401k a no no in almost all cases. I assumed one does not pay SS and medicare tax in retirement. Basically, for the marginal dollar, a Roth 401k that was worth about 5-10 percentage points in marginal tax rate has been taken up by SS and medicare tax. I am assuming that your SS in retirement does not increase substantially because you contributed to Roth 401k to the max v/s contributing to traditional 401k to the max as SS is designed to provide diminishing returns for people with higher current incomes.

  16. Harry Sit says

    KD – SS and Medicare have no effect in this calculation. When you contribute to a traditional 401k, you still pay SS and Medicare tax on that contribution. If you include the SS and Medicare tax rate in the marginal tax rate, the spreadsheet assumes the traditional 401k contribution is exempt from SS and Medicare taxes, which is not the case.

  17. KD says

    TFB, is this statement correct? “If you make a contribution to Roth 401k and roll it over to Roth IRA in 2 days, say, and earn no income on it (that is you put it in a money market fund and essentially the value remains constant) then its ok.” The last answer on this page seems to imply this.

    It may be a non-qualified distribution if the Roth 401k plan does not allow in service withdrawal. But is it still ok as far as put it back into Roth IRA?

    This may help if one has a poor and expensive fund choices in Roth 401k? Again AGI limits may apply, I suppose?

    Are there other tax issues?

    Thanks a bunch, KD

  18. KD says

    My bad. It seems this can be done only for “eligible rollover distributions” and eligibility criteria are: termination from service, termination of the plan, attainment of retirement age in the plan, such as age 65, attainment of age 59 1/2, in-service and disability. If the plan does not allow in-service distribution then tough luck.

    I called the retirement plan servicing and the girl there was happily telling me that I could what I described above as my plan allows withdrawal of after-tax contributions. A) My plan does not allow after-tax contributions and B) Roth 401k contributions are not same as after-tax contributions.

    So I was fooled as usual, I think. 🙂

  19. JF says


    What about concerns that US debt is increasing and government spending is out of control? Also, as much as we don’t like it, America is becoming more “socialist” in nature, and I see it adopting more services such as universal healthcare, etc. The only way I forsee the government funding this is a tax rate increase!

    Let me also tell you a bit about myself: I’m currently 26, in the 28% income tax bracket, and max out my 401k at $16,500 every year (due to sound financial advice from my parents and friends).

    Another huge concern of mine is that social security won’t even be around by the time I’m old enough to collect! Especially with the recent Obama compromise cutting social security tax… (let’s hope this is not permanent in 2 years)

    Given my concerns, would you still suggest putting all my money in a traditional 401k instead of a Roth 401k?


  20. JeffB says


    Read TFB’s initial post on the subject (it is linked to at the beginning of the post). I think it will answer all your questions.

  21. DC_fed says

    This is an old thread but hoepfully still alive. I currently max out my traditional federal TSP, I turn 50 next year so will be eligible to make catch-up contributions, not sure I understand what all that’s been said in this thread and I am trying to decide if the catch-up contributions should go into the the traditional TSP or Roth TSP, essentially what factors do I consider to help make that decision? Thanks!

    • Bluegreen says

      Based on the comments from before, it really depends on your situation. Do you need the tax savings now? If not, then the 401k Roth sounds good. Especially, if you are not able to fund a Roth IRA due to income limitations.
      I was funding both traditional and Roth 401k until I realized that I needed the tax savings now. If I had been better informed when I was younger, I would of maxed out my Roth 401k while I was still in my 20s and living with my parents and then my sister (starting out). Since I can still fund a Roth IRA, I am now in my 30s and max out the traditional 401k and the Roth IRA. Anything extra funds 529 plans and EMF.
      Good Luck and congrats to being able to afford the catch-up contributions!

  22. malav shah says

    What I believe is, when Person is young, he should invest in ROTH IRA – so more tax free return he can get and once he cross 40 or 45, he or she should move to Traditional IRA which is anyway giving before tax investment at any age.

  23. Ben says

    I am actually in a situation like Mr. Sit mentioned in the prior post on the Traditional 401k vs. Roth 401k topic. I am in my last year of surgical training, and have access to both a traditional 403b and a Roth 403b. There is a generous match on the first 5% of contributions dollar for dollar for the traditional 403b that I am planning to participate in (no-brainer there). Would you recommend traditional 403b or Roth 403b contributions after the match? I was planning on doing as much Roth 403b as possible after the match. I would love to hear your opinions. Great set of posts on this topic.

    • Harry Sit says

      Roth. You will get the same match (into a traditional account) if you do 100% Roth.

  24. Jeremy says

    Hi Harry

    With the spreadsheet, should the formula in cell C15 = B14 / (1-B2) – B14 ?

    At a 35% marginal rate, a $100 Roth contribution requires earnings of ~$154.
    With the current formula, it shows earnings of $135.

    Using all of the other defaults, this shows Roth Advantage = -13.3%



    • Harry Sit says

      Jeremy – You must mean B15. The spreadsheet compares two scenarios: (1) Invest $100 in Roth 401k (cell B13); or (2) Invest $100 in Traditional 401k (cell B14), plus invest the tax savings (cell B15) in taxable.

      Your $154 scenario would compare with investing $154 in a traditional 401k. Here we are assuming the investor is reaching the 401k contribution limit. There is only $100 room in the 401k, either traditional or Roth. If you take it up with traditional, you have to pay tax on the $54, which becomes $35 available for investing in a taxable account.

      Roth would be worse than traditional when the tax rate in retirement is lower if you are not bumping up against the contribution limit (your $154 example). No surprise there. Here we are showing when there is a fixed contribution limit, Roth can be better than traditional plus taxable, for the marginal dollar, given a long enough time period, if the tax rate in retirement isn’t too much lower.

  25. DB says

    Your articles are very helpful – thanks in advance for sharing your insights. I’ve read them but want to make sure I’m understanding everything. My wife and I both work for the federal gov’t and have TSPs. We both contribute the max each year (currently $18k). I’ve been working for 17 years; she just started 4 years ago. I have all of my TSP savings in traditional; we set hers up as Roth (seemed smart to diversify, as I couldn’t account for all of the future unknowns). I’m now wondering whether I should be putting all of my contributions into Roth TSP, too. We’re in the 33% tax bracket, filing jointly. From what you’ve written about those who contribute the max and have a pension, seems like I should be in Roth like my wife. On that, I’m also not clear about whether I can ‘transfer’ my existing balance into the Roth TSP or just direct future contributions there from this point forward. I could retire in three years, but will likely work for at least eight more, so also not sure about how ‘worth it’ it is to switch at this point. Any advice is greatly appreciated. Thanks in advance.

    • Harry Sit says

      DB – I don’t think you can convert within TSP at this time. If you want Roth, it will be for new money only. You can convert after you retire. If you change the number of years before withdrawal in the spreadsheet from 30 to 8 or 3, you will see the Roth advantage goes down. I would stick with traditional.

  26. Bill B says

    Interesting topic, I can’t find an answer to my dilemma.

    My wife and I live in GA and are in the top tax bracket. Contributing the max to a 401k will not get us personally to a lower tax bracket, but I understand will reduce our taxable income. We have a 401k profit sharing plan and both of us contribute the maximum and have been for 20 years. Also, we continue to invest with after tax money. We have about 10 years left to work and am trying to decide if I should change my additional contributions to a 401k Roth. I imagine my tax bracket will be somewhat lower than now, but I am not sure what level. Reading through your articles it seems this scenario may be one that benefits us, but it is not clear to me why. Any comments would be appreciated.

    • Dave says

      I assume you are contributing the max to a non-Roth 401k and contributing additional money to taxable accounts. You cannot contribute to a Roth 401k since you are at the 401k (across Roth and non-Roth) limit. If your 401k plan allows, you can contribute after-tax money to a non-Roth 401k, then convert the after-tax to a Roth 401k or IRA. Annual 401k contributions cannot exceed $53,000 across non-Roth, Roth, and non-Roth after-tax. See Harry’s .

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