Question: My partner and I have been living abroad for the past few years. I have kept working for a US company and contributing to my 401k and roth ira.

When we return to America next year, my partner will be bringing over significant assets but pivoting careers. Based on our best projections, it will take no more than 5 years to resume/exceed our current HHI.

Since I believe the axiom that time in the market beats timing the market, my first instinct was to put the remaining $100k savings into a taxable brokerage after maxing their roth ira in 2025. However, with reduced HHI over the next five years, I would not be able to max both our roth iras and my 401k ($26k vs $38k).

My thought now is to max my 401k for tax reduction, then fill both ira accounts up equally. Would it make sense to put $40k in the taxable brokerage on day 1 and then slowly reallocate the $60k from an hysa/CD ladder to max out the roth iras annually? Or is straight into taxable the best way to go?

Eta: We will have a fully funded emergency account, so not worried about needing the money in the meantime.

Answer: Optimizing the Use of Your Savings Amid Reduced Household Income

Hello! It's great that you're planning ahead to make the most of your savings and retirement contributions during a period of reduced household income. Let's explore the options you've outlined and consider the potential benefits and drawbacks of each to help you make an informed decision.

Your Current Situation

Option 1: Allocate Savings Between Tax-Advantaged Accounts and Taxable Brokerage

Strategy:

Considerations:

  1. Maximizing Tax-Advantaged Accounts:

    • Annual Contribution Limits: Roth IRAs have annual contribution limits ($6,500 per person under 50 for 2023).
    • Use It or Lose It: Unused contribution room doesn't carry over; if you don't contribute the maximum in a given year, you can't make it up later.
    • Tax-Free Growth: Investments in Roth IRAs grow tax-free, and qualified withdrawals in retirement are tax-free.
    • Benefit Over Time: Prioritizing Roth IRA contributions can be more beneficial due to the tax advantages and compound growth over the years.

  2. Liquidity and Flexibility:

    • Access to Funds: Keeping $60,000 in an HYSA or CD ladder ensures funds are available to make annual Roth IRA contributions.
    • Interest Earnings: While HYSA and CDs offer modest returns compared to potential market gains, they provide stability and protect your contribution capacity.

  3. Balancing Immediate Investment and Future Contributions:

    • Time in the Market: Investing $40,000 immediately allows a significant portion of your savings to start compounding sooner.
    • Mitigating Market Risk: By spreading out Roth IRA contributions over several years, you practice dollar-cost averaging, which can reduce the impact of market volatility on your investments.

Option 2: Invest the Entire $100,000 in a Taxable Brokerage Account Immediately

Strategy:

Considerations:

  1. Maximizing Market Exposure:

    • Time in the Market: Investing all funds immediately may lead to higher potential returns due to more extended market exposure.
    • Compound Growth: More money invested upfront can compound over a longer period.

  2. Funding Future Roth IRA Contributions:

    • Reduced Income: With a lower household income, you may find it challenging to contribute to both Roth IRAs and your 401(k) from your salary alone.
    • Selling Investments: To fund future Roth IRA contributions, you might need to sell assets from your taxable account, which could trigger capital gains taxes.

  3. Tax Implications:

    • Capital Gains Taxes: Investments in taxable accounts are subject to taxes on dividends, interest, and capital gains.
    • Tax-Efficiency: Without the tax-free growth of a Roth IRA, the overall tax efficiency of your investments may decrease.

Comparing the Two Options

Tax Efficiency:

Flexibility and Access:

Impact on Retirement Goals:

Additional Considerations

  1. Future Income Levels:

    • Lower Tax Bracket: With reduced household income, you might be in a lower tax bracket, enhancing the benefits of Roth contributions since you're paying taxes now at a lower rate.
    • Tax Diversification: Maintaining a mix of pre-tax (401(k)) and post-tax (Roth IRA) retirement funds can provide flexibility in managing taxable income during retirement.

  2. Investment Strategy:

    • Asset Location: Placing investments that generate higher taxable income (like bonds or dividend-paying stocks) inside tax-advantaged accounts can improve tax efficiency.
    • Growth Assets: Holding growth-oriented investments in taxable accounts can defer taxes until you sell.

  3. Market Conditions:

    • Current Market Valuations: While timing the market isn't advisable, being aware of market conditions can inform your decision on investing a lump sum versus dollar-cost averaging.

  4. Emergency Fund Sufficiency:

    • Reevaluation: Ensure your emergency fund is sufficient to cover any unexpected expenses, especially during a period of reduced income.

Possible Approach

Given the considerations, one potential strategy is:

Summary

Final Thoughts

Maximizing contributions to tax-advantaged accounts like your 401(k) and Roth IRAs generally offers substantial long-term benefits due to tax savings and compounded growth. By reserving funds now to ensure you can continue making these contributions during periods of reduced income, you capitalize on opportunities that can't be reclaimed later.

Investing a portion of your savings in a taxable brokerage account allows you to benefit from market growth immediately while maintaining the flexibility to support your retirement savings strategy.