In 2006, the maximum 401K contribution will increase to $15,000 from $14,000. The question I must answer this next year is "am I really benefiting from the maximum pre-tax contribution?". With the baby coming next year, we've decided that Dayna will stay at home to be with the baby. With one income, a small annual 401K contribution and our mortgage interest and property tax deductions, our income will put us in the 15% tax bracket, as opposed to our current 25% marginal tax rate.
With that being said, it is very likely that our current tax rate of 15% will be the same rate we encounter during our retirement years. So, the question is, do we pay the tax now or during retirement? Obviously, I want to continue to make the minimum 401K contribution that allows us to receive our 2% employer match. That is a no brainer, but do I want more flexibility with the investable cash I have on hand?
In other words, do I want to pump the money into a 401K plan where it's unreachable until 59.5 years of age? Or, do I want the ability to invest the money in an after-tax investment now such that I forego paying taxes on the money during retirement? Another thing to consider is that the current tax on capital gains is also 15%. So, any money I make in my after-tax investments will also only be taxed at 15%. There is uncertainty as to whether or not the capital gains tax rate will remain at 15% in the future.
Once again, these are all questions that require addressing during the year-end financial checkup.
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