A Weak Case Against Roth IRAs

December 13th, 2007  |  Published in 401K, Roth IRA  |  5 Comments

It’s not very often you hear someone touting the benefits of a Traditional IRA over a Roth IRA, but today it happened. Roland Manarin, founder of Omaha, Nebraska based investment firm Manarin Investment Counsel, says that the bigger pot you work with in a tax-deferred account will result in greater earnings than a tax-free account.

“To put $4,000 into a Roth, you have to effectively earn $6,000,” because of taxes, Manarin said. “To put $4,000 into a regular [deductible] IRA, your take-home pay goes down by $3,000. What a huge difference,” he said. “Let’s turn it around: You put $4,000 in a Roth, that’s the equivalent of putting $6,000 in a regular IRA. There’s just no comparison.”

Then, “you compound that difference over 20, 30 years. Now I’m facing retirement, I’m going to be in a lower tax bracket, I’ve got three times the money in my regular IRA versus the person in the Roth,” Manarin said.

While I applaud the “going against the grain” idea, because it spurs thinking, I think this guy has a few flaws in his reasoning.

Assuming a lower tax bracket in retirement may be dangerous. Who knows what taxes will be in the future, that’s why I personally advocate tax diversification (a mix of tax-free and tax-deferred retirement accounts) so that you can hedge a little.

Assuming everyone can invest tax-deferred in a Traditional IRA is even worse. You can only deduct your contributions to a Traditional IRA if you satisfy certain rules, one of which is whether you’re an “active participant” in another in a company sponsored retirement plan. For example, if you’re single, participate in a company 401(k) and earn more than $50,000, you cannot deduct your Traditional IRA contributions! (more rules here) That throws the whole idea of deductible IRAs being better out the window.

It’s an admirable try at it and a great way to get yourself and your firm in the papers but I think it’s deeply flawed.

  

Responses

  1. Brandon says:

    December 14th, 2007 at 9:05 am (#)

    My first thought was the deductibility limits. I think this advice only applies if you are not able to be an active participant. Of course, in that case, you probably should be maxing out both your Roth and your Traditional to think about having enough for retirement :-/

  2. Brandon says:

    December 14th, 2007 at 9:10 am (#)

    One other aside:
    I hate how so many articles written about tax deductibility assumes that the reader will be in the 33% tax bracket. I cannot imagine that many single people make over $160,850 a year. The marriage penalized $195,850 for a couple is somewhat more reasonable, but that is still higher than the vast majority of earners.

  3. retirehappy says:

    December 18th, 2007 at 2:28 pm (#)

    That’s interesting about the 33% tax bracket observation, in my experience I’ve seen a lot more written with the assumption of the 25% tax bracket… but that’s probably because I’m in that bracket.

  4. oysterthepearl says:

    December 27th, 2007 at 8:36 pm (#)

    Regarding this statement:

    ?It?s an admirable try at it and a great way to get yourself and your firm in the papers but I think it?s deeply flawed?.

    I agree, I sent a note to this firm about this article and they didn?t answer my questions. They just wanted me to fill out a form disclosing my net worth complete with my Social Security number. This is just a ploy to get customers. Steer clear of these idiots.

  5. Mike says:

    January 17th, 2009 at 8:28 pm (#)

    Even if the 33% current tax bracket assumption is correct– a big “if”– let’s not forget that $4000 in a Roth is worth more money than $4000 in a traditional… because of future taxes on the latter.