BAE System’s Hierarchy of Retirement Savings for High-Income Earners
“I’m retired” sounds great – “I retired early” sounds even better.
Saving more, saving faster, and investing efficiently can create this reality. How much to save and how to invest are important, but we must also consider where to save it.
Our government incentivizes retirement savings by offering tax-advantaged accounts ranging from IRAs, 401(k)s, Health Savings Accounts and Roth IRAs. High-income earners often require a combination to reach optimal wealth accumulation.
In priority, we will list six accounts BAE Systems employees can leverage to maximize the possibility of a successful (and potentially early) retirement.
TIER ONE: Health Savings Account
A Health Savings Account, “HSA”, is the only account triple tax-preferred. Savings are deductible at contribution, grow tax-free, and are withdrawn tax-free. The caveat is the withdrawals must be equal to or less than qualified medical expenses in the year of withdrawal.
Contributions are limited to $3,500 per year per person and investing those savings is only permitted on balances above $1,000. Nevertheless, the triple tax-preferred incentive and high likelihood of medical expenses in retirement make this account number one.
BAE Employees have access to HSA accounts if they are enrolled in a high-deductible healthcare plan. Contributions are made via payroll deduction and offer similar investment options as the 401(k).
TIER TWO: BAE Systems 401(k) Pre-Tax Contributions
BAE’s 401(k) plan allows $19,000 (2019) in deductible, pre-tax contributions and another $6,000 if the saver is over the age of 50. Most are taking advantage, so we will be brief.
In peak earning years it is likely a BAE employee is in their highest marginal tax bracket. If taxes can be deferred to a lower bracket in the future, i.e. retirement, why not take advantage?
TIER THREE: Private Roth IRA Contributions
Income limitations restrict high-income earners from making direct contributions to private Roth IRAs. However, savers at any income level can make non-deductible contributions to a Traditional IRA ($6,000 in 2019) and then convert those dollars to Roth.
Roth IRAs are double tax-preferred. Taxed at entry but enjoy tax-free growth and withdrawal in retirement. After high-income earners exhaust pre-tax deductions (Tiers 1 & 2), Roth is typically the next best option.
TIER FOUR: Mega Roth Contributions
Unique to the BAE Systems 401(k), the plan allows Non-Roth After-Tax contributions up to the ERISA/IRS maximum of $56,000. Subtracting pre-tax deferrals of $19,000 (Tier 2) and the 6% BAE match, the 401(k) allows up to $20,000 or more in additional tax-preferred savings. Like Tier 3, these dollars can be converted to Roth twice per year and enjoy tax-free growth and withdrawal for life.
At Acorn we work with high-income families who are in a race to put away as much as possible to reach their retirement goal. The little-known Mega Roth Contribution fast tracks this race and gets savers to the finish line faster.
TIER FIVE: Tax Deferred Savings
If we never converted Tiers 3 and 4 to Roth, we would be here. Savings enter after-tax, grow tax deferred, but the investment gain is taxed as ordinary income upon withdrawal. This is okay if savings are converted to Roth each year, but not the best long-term home for retirement savings. This is why Roth conversions are so important.
TIER SIX: Old Fashion Taxable Brokerage Account
This is your individual, joint, or revocable trust account. A portion of earnings are taxed annually via dividends and capital gains. These taxes create tax drag. The tax incurred each year drags investment performance and slows us down.
The lesson here is location. By saving in the right locations we speed up our savings and investments by allowing them to grow at their highest potential.
I am interested in the strategy and want to meet with Acorn Financial
Acorn Financial is in Nashua, NH. We are a fee-only financial planning and investment management firm. We work with successful families and businesses in the region who are committed to financial independence. Our first meeting is always free and we welcome your interest.
Here is our contact information:
Drew Hefflefinger, CFP®
400 Amherst Street, Suite 303
Nashua, NH 03063
Advisory services offered through Commonwealth Financial Network, a Registered Investment Adviser.