THE SWITCHING POINT WITHIN 401K TAXATION STRUCTURES

Open Access
Author:
Runk, Adam D
Area of Honors:
Finance
Degree:
Bachelor of Science
Document Type:
Thesis
Thesis Supervisors:
  • James Alan Miles, Thesis Supervisor
  • Timothy T Simin, Faculty Reader
  • James Alan Miles, Honors Advisor
Keywords:
  • 401k
  • taxation
  • strategy
  • Roth
  • Traditional
  • Social Security
  • amortization
Abstract:
This paper explores the choice presented to workers with access to both a Roth and Traditional 401k. By using mathematical analysis and financial modeling this paper determines an optimal strategy to maximize an individual’s after-tax payouts in retirement while accounting for social security taxation. The strategy is highly dependent upon factors such as the interest rate earned, contribution amount, salary, number of years contributed, number of years in retirement, future tax structures, future social security laws, and the inflation rate. Since there are so many variables, equations and theory are presented in assisting an individual in determining their strategy. Generally, the optimal strategy is to choose a Roth taxation structure in the earlier years of employment when income is lower and contributions will grow the longest and have the largest impact on tax rate at withdrawal. Then, at a certain point termed the “Switching Point”, it is beneficial to stop contributions to the Roth 401k, keep the current funds in the Roth 401k, allow them to grow, and then start contributing to a Traditional 401k until retirement.