This FREE two slide set can be used to illustrate the impact of future tax rate increases on a traditional IRA vs. Roth IRA
Did you know that mathematically, there is no difference between the bottom line results your clients will achieve from a traditional taxable IRA compared to a tax-free Roth IRA, if everything else is equal?
By everything else being equal, I mean that as long as growth rates of a traditional IRA and a Roth IRA are the same, and as long as tax rates in the future are the same as current rates.
But if you believe as I do that future tax rates will be much higher than current tax rates, then Roth IRAs provide a huge benefit over any tax deferred retirement plan.
The two slides in this free set allow you demonstrate this advantage.
This first slide demonstrates that the Roth IRA has no advantage over a traditional IRA, assuming taxes in the future are the same as today.
We see a $100 contribution made to both accounts.
The traditional IRA has the perceived advantage of no taxes on the contributions so the amount in the traditional IRA after tax is the same $100 contribution.
Because Roth IRA contributions are made with the money remaining after tax, it is only fair to say that just $70 remains in the Roth… assuming a current tax rate of 30%.
If we assume that each account doubles in value over time, we have a $200 balance in the traditional IRA compared to only $140 in the Roth IRA.
If these balances are withdrawn in retirement, and the future tax rates are the same 30% that we used as the current tax rate, net of tax, the traditional IRA provides $140.
Net of taxes, the balances in both accounts is identical in this first example.
But what if everything is not equal? What if future tax rates are much higher than current tax rates?
In that case the account providing tax free access of retirement funds has a very distinct advantage.
In this second slide we use the same $100 contribution. And the same current tax rate of 30%.
Both accounts double over the years to retirement.
But now with this second slide, we are now assuming that at the time of withdrawals the tax rate has increased from the current rate of 30% to 40%.
Too bad for the owner of the traditional tax-deferred IRA because net of tax, he will only have $120 to spend. While the tax-free account provides a much greater $140 that is spendable.
When it comes to the biggest expense clients might face in retirement, for some it could easily be taxes.
When it comes to the biggest risk clients might face in retirement, for some it could easily be the risk that tax rates will rise in the future.
This is an important conversation to have with your clients.
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