Sometimes I hear from people who are so concerned about taxes, they’re missing the bigger point. You want your investments to actually make money!
For example, let’s say you can’t contribute any more to a Roth IRA because you’ve maxed out the $6,000/year contribution limit. Is it still worth it to invest in a regular taxable brokerage account? ABSOLUTELY!
Let’s work it out: Invest $10K in a brokerage account at a 10% rate of return. 20 years later it will be worth over $67,000. If that was in a Roth IRA, there would be no tax! You keep all $67K! But if it is in a regular brokerage account, you have to pay tax on the $57,000 of gains you made. Let’s say you pay 25% tax on that. That means you pay $14,250 in tax. Ouch!
But here’s the thing. After you pay that $14,250 in tax you’re still left with $52,750. For those keeping track at home, that’s still a LOT MORE than the $10K you started with. So yes I would much rather have $52,750 than $10K. So yes, I still invest, even if I’m taxed on the gains.
That’s what “don’t let the tail wag the dog” means. Don’t let the fear of paying some tax prevent you from choosing the right investments first. Once you do that, then take advantage of any tax breaks, like a Roth IRA, 401k, HSA, etc.
Speaking of HSAs, I sometimes get asked “Should I choose a high deductible health plan just to get an HSA”. NO! Don’t let the tail wag the dog! Choose the right health plan for your health. Then, if it happens to include the nice HSA tax break, then sure, go for it!
As always, reminding you to build wealth by following the two PFC rules: 1.) Live below your means and 2.) Invest early and often.