Newsgroups: misc.invest

>/ hpfcso:misc.invest / brownr@hydra.rtp.dg.com (Randy Brown)
>
>Difficult question, and the answer is probably how important is it to you
>to have the money now vs later.  If anyone else wants to work out the
>numbers I'd be very interested, since this question is more complicated
>than it looks.

Ditto, it can be an extremely complicated exercise.  There are a lot of
unknowns involved in evaluating tax-deferred investments.

First I'll give my personal bottom line answer.  If you are investing
for the long term, >10 years, primarily for retirement, then I would
say you should make maximum use of the 403(b).  If this means going with
the 30-year mortgage, then do it.  However, I'm not suggesting that you
sacrifice a margin of safety in order to contribute to the 403(b).  You
should first build an emergency supply of liquid investments and cash,
and get yourself into a position where you could sell your house without
bringing any cash to closing.

Now, what are the unknown variables that make this comparison so tricky?

(1) How long will your investment remain in a tax-deferred account?  The
    benefits of tax deferral on interest depend on how long the deferral
    period is.

    Example:  What is the effective (after-tax) return on a tax-deferred
              $10,000 investment, invested at 10% and taxed as a lump-sum
              distribution at a rate of 30% upon retirement ...

	      (a) if the tax deferral period is 5 years?

		  Account balance before taxes = $10,000 * 1.1^5 = $16,100
		  Gain = $16,100 - $10,000 = $6100
		  After-tax gain = $6100 * .7 = 4270
		  Total after tax return = 42.7%
		  Effective annual (compounded annually) = 7.37%

	      (b) if the tax deferral period is 30 years?

		  Account balance before taxes = $10000 * 1.1^30 = $174,494
		  Gain = $174,494 - $10,000 = $164,494
		  After-tax gain = $164,494 * .7 = $115,145
		  Total after tax return = 1151.45%
		  Effective annual return (compounded annually) = 8.78%
              
(2) You can only guess what the income tax rate structure will look like
    when you recieve distributions from your retirement account.

(3) The effective marginal rate of taxation on your 403(b) distributions
    will depend on how much income you have from other sources at that time.

(4) Equity (stocks, as an example) investments historically have the best
    long-term return, but that rate of return can only be estimated.


Now, if you're still here, here's an example to show that you can come
out ahead in your 403(b) even with a very conservative investment.

In all cases the tax rate is 30%.

Case #1.  Get a $100,000 mortgage at 8% for 15 years.  Payments are
	  $955.65.  Pay off your home in 15 years, invest the tax
	  refunds you receive due to interest payments at 8% (these
	  gains are taxable).  Then for 15 years, invest the $955.56
	  (that's $1365.21 in pre-tax dollars) in a tax- deferred
	  retirement account at 8%.

	  Results:

	  Retirement account (pre-tax) =   $ 472,416

	  Retirement account (after-tax) = $ 330,691
	  Tax refund account             = $  86,096
	  ------------------------------------------
	  Total                            $ 416,787

Case #2.  Get a $100,000 mortgage at 8.5% for 30 years.  Payments are
	  $768.91.  Pay off your home in 30 years, invest the tax
	  refunds you receive due to interest payments at 8% (these
	  gains are taxable).  Also, invest the mortgage payment savings
	  of $186.74 (that's $266.77 in pre-tax dollars) in a tax-deferred
	  retirement account at 8%.

	  Results:

	  Retirement account (pre-tax) =   $ 397,585

	  Retirement account (after-tax) = $ 278,309
	  Tax refund account             = $ 159,531
	  ------------------------------------------
	  Total                            $ 437,840

Of course, the numbers only get better if your return in the retirement
account is increased.