Tax. deferred accounts vs. long term capital gains?


O

oprah.chopra

I am reading that tax deffered account like 401K aren't so great
because you end up paying ordinary income tax rates on the
withdrawls. Is it better then to invest your money directly in stocks
and just pay the long term capital gains tax rate, 15%?

I have already maxed out my 401k and IRA's . Now I want to max out a
SEP for a side-business. But should I just invest the money in stocks
directly? Which is better?

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R

Ron Peterson

I am reading that tax deffered account like 401K aren't so great
because you end up paying ordinary income tax rates on the
withdrawls. Is it better then to invest your money directly in stocks
and just pay the long term capital gains tax rate, 15%?
You will end up with more with 401K for the same investment if your
tax brackets don't change. The initial tax deferral helps a lot.

You will later be able to convert the 401K to an IRA and then to a
Roth.
I have already maxed out my 401k and IRA's . Now I want to max out a
SEP for a side-business. But should I just invest the money in stocks
directly? Which is better?
It's good to have direct investments in the stock market for
flexibility and those things that aren't available in a 401K.
 
E

Ernie Klein

I am reading that tax deffered account like 401K aren't so great
because you end up paying ordinary income tax rates on the
withdrawls. Is it better then to invest your money directly in stocks
and just pay the long term capital gains tax rate, 15%?
Politics aside:

At least one candidate for president has said that if he is elected he
will raise the capital gains tax to 28% -- so the present 15% staying
that way is not a sure thing.

--
-Ernie-

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R

Rich Carreiro

Ernie Klein said:
At least one candidate for president has said that if he is elected he
will raise the capital gains tax to 28% -- so the present 15% staying
that way is not a sure thing.
And given that it's near guaranteed the Bush tax cuts aren't
going to be renewed/extended, that 15% is going to 20% with
virtual certainty in 2010 or 2011 when those tax cuts sunset
(and dividends will go back to being pure ordinary income, too).

--
Rich Carreiro (e-mail address removed)

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E

Elle

Obama in the March debate and elsewhere has said he
"certainly would not go above... 28%." Then the debate
moderator challenged Obama with the oft-repeated claim that,
when CG tax rates drop, tax revenues go up. (There is some
evidence to support this.)
And given that it's near guaranteed the Bush tax cuts
aren't
going to be renewed/extended, that 15% is going to 20%
with
virtual certainty in 2010 or 2011 when those tax cuts
sunset
(and dividends will go back to being pure ordinary income,
too).
It is not "near guaranteed," since McCain may very well win
in November, and he supports continuing the rate at 15%.

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Misc.invest.financial-plan is a moderated newsgroup where Moderators strive
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R

Rich Carreiro

Elle said:
It is not "near guaranteed," since McCain may very well win
in November, and he supports continuing the rate at 15%.
According to the civics classes I took in grade school,
the House and Senate originate bills, not the President.

Given the current composition of the House and Senate (let
alone the likely post-Nov 2008 composition), it doesn't
matter what Mr. McCain wants should he win, since no bill
to extend the 15% rate and qualified dividends treatment
is going to make it to his desk.

--
Rich Carreiro (e-mail address removed)

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A

Andrew Koenig

I am reading that tax deffered account like 401K aren't so great
because you end up paying ordinary income tax rates on the
withdrawls. Is it better then to invest your money directly in stocks
and just pay the long term capital gains tax rate, 15%?
My back-of-envelope calculations suggest that this is a difficult question
to answer. There is no question that even if capital-gain tax rates are
substantially less than ordinary income tax rates, you are better off with a
tax-deferred account if you wait long enough. The trouble is that the
definition of "long enough" varies wildly with the particular situation. As
an obvious example, if regular income tax rates are 25% and capital-gains
rates are 15%, then you pay an extra 10% on all your earnings if they're in
a tax-deferred account. However, in the tax-deferred account, those
earnings compound tax-free until you withdraw them, which means that the
extra money you make will eventually outweigh the difference in tax rates.

How long you have to wait depends on how your investments perform, when you
need the money, what happens to future tax rates, and lots of other
imponderables.

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Misc.invest.financial-plan is a moderated newsgroup where Moderators strive
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B

BreadWithSpam

I am reading that tax deffered account like 401K aren't so great
because you end up paying ordinary income tax rates on the
withdrawls. Is it better then to invest your money directly in stocks
and just pay the long term capital gains tax rate, 15%?
If you can buy _perfectly_ tax-efficient stocks (ie. which
throw off no dividends and only hold cap-gains) and you
never re-balance, and you don't require a portfolio which
holds other assets (ie. bonds), you *could* be right -
that instead of a 401k, you may come out ahead with stocks
in your taxable account.

But that's a lot of ifs. And doesn't take into account
any possibility of long-term cap-gains rates (or, similarly,
income rates) changing.

The fact is, though, that most diversified stock-holding
portfolios *do* throw off currently taxable income - cap
gains from rebalancing, taxable dividends, and when
the portfolio is balanced with some fixed-income (which
is a good idea for most portfolios, even if only as little
as 10 or 20%) - a tax-deferred account (or tax-free
account like a Roth, especially) comes out well ahead.

In addition, having the assets in a 401k or IRA adds
additional layers of protection against creditors, and may
not be considered as assets you have when they compute
college financial aid calculations.

In the end, there are arguments for *both* classes of
accounts - taxable *and* tax-favored (whether deferred
or Roth-ish).

--
Plain Bread alone for e-mail, thanks. The rest gets trashed.
No HTML in E-Mail! -- http://www.expita.com/nomime.html
Are you posting responses that are easy for others to follow?
http://www.greenend.org.uk/rjk/2000/06/14/quoting

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E

Elle

Rich Carreiro said:
According to the civics classes I took in grade school,
the House and Senate originate bills, not the President.
Adults who study actual politics know there is ongoing
back-and-forth between the two houses and the President. One
way or another, the President often does have his/her
legislative ambitions realized. There are strong arguments
that raising the cap gains tax is deleterious to the economy
and tax revenues. I won't bet right now on what will happen.

To the OP: This past week another regular here and I have
been discussing asset location. Depending, one strategy you
may want to employ is ensuring all your bond allocation is
in your 401(k). For many people, non-muni bonds are the
least tax efficient (generally being taxed as ordinary
income) and so are served best through tax deferral in a
Trad IRA or 401(k). The following article is a good read on
the subject:
http://answers.yahoo.com/question/index?qid=20080305090519AA2eedG .

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R

rick++

At least one candidate for president has said that if he is elected he
will raise the capital gains tax to 28% -- so the present 15% staying
that way is not a sure thing.
This has already changed back and forth three times in my
savings career. The principle of "tax diversification" suggests
investing in different tax vehicles to weather changes.

Anyways, many of longer term investors have had to invest
in alternative savings. Tax deferred limits were rather
small until the mid-1990s, and too small now for six figure incomes.
Its recommended one save 15% for all needs.

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R

rick++

You can change your investments inside a tax-deferred account
without penalty.
If a stock goes sour and you sell it, you get hit with taxes.
You want stomething very diversified and tax efficient like
a broad index fund.

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Misc.invest.financial-plan is a moderated newsgroup where Moderators strive
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