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5 Reasons Why Roth Plans are More Popular with Millennials than Baby Boomers

5 Reasons Why Roth Plans are More Popular with Millennials than Baby Boomers
August 29
00:58 2017

In a May 2014 Issue Brief, (“Individual Retirement Account Balances, Contributions, and Rollovers, 2012; With Longitudinal Results 2010–2012: The EBRI IRA Database,” by Craig Copeland, Ph.D., Employee Benefit Research Institute Issue Brief No. 399), EBRI indicated retirement savers below the age of 45 were more likely to use Roth vehicles rather than traditional tax-deferred retirement savings plans. Does this mean Roth IRAs and Roth 401k will eventually replace the old stand-by retirement plans as the older demographic ages out? While some may see this movement as indicative of a long-term trend, there are reasons to believe this behavior is age-related, not cohort related. We’ve identified five of them here.

#1: It’s Not “New”
You know all those crazy stories about how anyone born after 1980 never lived with a microwave oven? The same applies to the Roth. For millennials, Roth plans “were always there.” That’s not the case for baby boomers. Ash Toumayants, Founder of Strong Tower Associates in central Pennsylvania, says, “When people above 55 were the same age of those who are currently Millennials, Roths were either not an option or were not widely used.”

Just like they can’t operate those “new-fangled” VCRs (which actually don’t exist anymore), the older generation, used to doing things a certain way, has a learning curve when it comes to Roth plans. “Since Roth IRAs have only been around since 1997, it takes a while for taxpayers and their advisors to fully understand their benefits,” Blake Christian, Tax Partner at HCVT in Long Beach, California.

The perception of a steep learning curve is enough to keep many baby boomers away. Toumayants says, “Boomers think that, ‘It’s too late now,’ ‘I’m not going to get a lot out of it,’ ‘There’s not a lot of value in it,’ ‘It doesn’t make sense anymore, I’m only five ways away from retirement,’ or even ‘Well, I can only put so much in, it’s not going to be worth that much money by the time I’m ready to retire.’”

In fact, it’s not like the usual reason (see below) baby boomers don’t have Roth plans – their income is too high – isn’t insurmountable. There are ways to get around this income restriction. “There are income phase-out limits that restrict people from contributing to a Roth IRA which makes it ideal for young people,” says Michael R. Gold, Senior Private Client Advisor‑Regional Director at Fortis Wealth in New York City. “However, the issue is that there is a loophole to actually contribute to your Roth IRA regardless of how much you earn. Even Bill Gates could make a ‘Non-Deductible’ contribution to his traditional IRA, then once the funds settle he can convert those funds into is Roth IRA thus, side-stepping the phase-out limits.”

Taking advantage of this “loophole” entails going through hoops that, apparently, those nearing retirement simply don’t have the inclinations to do. “Although the income restrictions for establishing a Roth IRA may be avoided by a higher earning worker otherwise ineligible for a Roth IRA by establishing a traditional IRA and then converting it to a Roth IRA, older workers may not want to go through the additional steps to establish a Roth IRA,” says Steven J.J. Weisman, an estate planning lawyer who teaches Gifts, Trusts and Estates and other estate planning courses at Bentley University in Waltham, Massachusetts.

As a result of familiarity, (we can call it the “microwave oven effect”), the decision of whether to use a Roth or a Tradition retirement savings vehicle doesn’t suffer from the burden of “newness.” For millennials, the learning curve for each vehicle is the same; therefore, the decision process is easier, especially since both choices are much more broadly available today compared to when the baby boomers first started saving for retirement. “The reason that Roth vehicles are more popular with the younger generation and people under age 55 is that they have more exposure to them since they are now being included as an option in 401k plans and pension plans,” says Richard P. Sabo, Owner of RPS Financial Solutions located in Gibsonia, Pennsylvania. “The younger generation also spends more time reading and investigating these things or they have heard more about their popularity as opposed to people who have been contributing to a pre-tax vehicle all of their life and are not interested in changes unless it is presented to them by a financial planner.”

#2: Lower Current Income
Sure, familiarity helps, but ease of circumstances helps even more. “I think younger demographics are more familiar with Roth accounts and may be more likely to be in a situation (lower relative income) where contributing to Roth accounts make sense,” says Alex Vaccarella, a financial planner at AEPG Wealth Strategies in Warren, New Jersey. “Generally, as you get older your income increases, making pre-tax retirement contributions a much more attractive proposition. In the case of Roth IRA accounts, folks who are working and earning over a certain limit may not have the ability to make Roth IRA contributions at all.”

Truth be told, this restriction has been loosened in recent years. “The law recently changed only in 2010,” says Jeff Feinstein, an associate at Lenox Advisors in New York City. “Before that time, if you made over $100,000, you could not contribute or convert to a Roth IRA.”

Still, the change is perhaps not significant enough to impact baby boomers, especially those living in higher population areas which tend to have higher costs of living (and higher salary ranges as a result). “Younger people generally fall under the AGI limit ($118,000 phase out and full elimination of contributions to Roth IRAs at $133,000 for single taxpayers) to contribute to Roth IRAs,” says Christian, “while older taxpayers are often ineligible to make Roth contributions since they’re more likely to exceed the AGI limits.”

This particular reason suggests the decision to move into a Roth is not necessarily a millennial thing, but based on one’s career arc. Perhaps, once millennials move into their 50s, the Roth option will become less attractive to them. “Roth vehicles are more popular for the younger demographic mainly because they are eligible to contribute into Roth IRAs based on their lower income than people above 55 years old who may have hit their peak income years,” Dustin Javier, President of Dean Johnson Advisory, a financial planning firm located in Bartlett, Illinois. “Depending if you are single or married, there are certain income thresholds that you must follow to make qualified Roth IRA contributions. There are no income limits inside employer Roth plans.”

#3: The Tax Deduction is Less Attractive
It’s not just the salary level that’s changing as people age, it’s also lifestyle expenses. “The popularity of Roth IRAs with younger people probably has more to do with the level of income taxes than with age,” says Dave Bensema, Regional Director of Wealth Planning – Illinois at BMO Private Bank in the greater Chicago area. “Earlier in a career, income and tax brackets may be lower where the tax benefit is not as strong as a motivator for making contributions to retirement plans. Traditional 401ks, and to a lesser extent IRAs, may provide a current income tax savings – allowing a wage earner to save money with smaller out-of-pocket costs for the contribution. Younger workers may have a smaller lifestyle costs while those over age 55 may have well established lifestyle costs, including fixed costs (debts), that are competing with the need to save for retirement. The tax deduction may be lessening the pain of saving.”

“The income tax deduction available for contributions to Roth IRAs may not be as significant to a younger person who may not be earning as much money as the older worker,” says Weisman.

The traditional lifestyle arc, along with the traditional career arc, may push millennials away from Roth style savings later in life. “Roth IRAs are more popular with young people because generally they have a lower need for tax deductions,” says Mike Acevedo, a financial planner at Dynamic Wealth Advisors in Orange County, California. “Younger individuals might be making less money now than in the future and additionally might have a greater amount of deductions due to new mortgages, young children, and perhaps a ‘side hustle’ which allows them to take deductions for running their own businesses and startup ventures.”

#4: Fear of Rising Tax Rates and Uncertainly of the Future
We’ve all seen the “deer-in-the-headlights” stare when someone is asked “what do you expect your annual retirement expenses to be?” Funny thing, though, but when you ask a person a few years away from retirement, they can answer the question pretty confidently. Feinstein says, “An older generation, or a generation closer to retirement has a more foreseeable future as it relates to how long they’ll work, what taxes may look like, and whether or not they’ll be tapping into their retirement savings.”

Now, imagine the consternation when we ask some to predict not just their future actions, but the future actions of the government. “Younger people have more time facing the risk of a rising tax rate environment and often are not in their prime earning years,” says Joshua Mungavin, Principal at Evensky & Katz/Foldes Financial in Coral Gables, Florida, “so it may make more sense for them to utilize Roth plans than it might for someone who is older.”

Put this all together and it’s no wonder millennials flock to the certainty of the Roth. “Roth vehicles may appeal to the younger group for a few reasons,” says Robert Schneider, VP – Relationship Manager at Cleary Gull Advisors in Milwaukee, Wisconsin. “Constant rumors of future tax hikes make Roth vehicles attractive to those who are OK paying tax now in order to avoid higher tax rates during retirement. Young workers benefit from this as they are most likely in lower tax brackets now than they will be as their careers progress. Conversely, members of the older age group likely find themselves in higher tax brackets and prefer to minimize their tax liability now rather than in the future when they expect to land in a lower tax bracket during retirement. Younger people may still have a need for flexibility. Roth distribution rules allow the account owner to withdraw an amount equivalent to the amount contributed with no adverse tax ramifications. Lastly, Roth vehicles are more widely available now than in the past with the increase of 401k plans including the Roth option.”

#5: They Want to Get the IRS Off Their Backs ASAP
Don’t discount a bit of a libertarian thread running through the decision-making of the collective body. “In my practice, I find that younger clients are willing to be creative,” Darryl Rosen, founder of Rose Advisory Group in Chicago and author of the book, The Race of Your Life, How to Reach Retirement with Cash in the Bank and Fuel In the Tank. “They don’t have years and years of doing everything the same way. They’re not as hardened. They’re more accepting that they will pay taxes so why not get it out of the way now. The argument of ‘getting as much money off the IRS’s radar as possible’ seems to resonate. Further, I find that the closer one gets to retirement, the less likely he or she will want to fork the money over for taxes before is absolutely necessary. I have more people checking their account balances (5 times a day) in their 60s than their 30s. (Incidentally, this is a battle I face every day. Even when I show someone that they will have more net worth down-the-line by paying the taxes now (a conversion), there is still pushback).”

Will this iconoclasm be enough to counter the impact of the career and lifestyle arcs? We’ll know in twenty years.

Preferred Members of FiduciaryNews.com have access to premium content on this topic through the following articles:

  • 5 Reasons to Convert to a Roth Retirement savers under the age of 45 are 2 to 4 times more likely to save in an after-tax Roth vehicle rather than a traditional tax-deferred savings vehicle. The growing popularity of using Roths makes converting to them an option worth considering. Here are five reasons to convert to a Roth, four of which you rarely read about.
  • 7 “It Depends” Reasons to Avoid Converting to a Roth You’ve heard it all – the Roth means never having to pay taxes again. But there’s more to converting than meets the eye. It all depends on several factors you might not be things about (but should). Just in case you might have missed one, we’ve provided you a list to quickly scan.
  • A Last Minute 5 Point Checklist Once You’ve Decided Whether to Convert to a Roth After you’ve done your preliminary analysis and are ready to pull the switch to convert, there’s one more thing you need to do. Actually, there are five more things to do, and we present them in this concise checklist.

Christopher Carosa is a keynote speaker, journalist, and the author of  401(k) Fiduciary SolutionsHey! What’s My Number? How to Improve the Odds You Will Retire in Comfort and several other books on innovative retirement solutions, practical business tips, and the history of the wonderful Western New York region. Follow him on Twitter, Facebook, and LinkedIn.

Mr. Carosa is available for keynote speaking engagements, especially in venues located in the Northeast, MidAtantic and Midwestern regions of the United States and in the Toronto region of Canada.

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Christopher Carosa, CTFA

Christopher Carosa, CTFA

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