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So a few weeks ago we were in Germany and I met up with fellow blogger Justin McCurry from RootOfGood.com who was also travelling through Europe with his lovely wife and family at the time.
And in our booze-socked afternoon, the topic of taxes inevitably came up.
Shut up. Don’t judge. This is how conversations with FI-ers usually go.
Anyhoo, the thing about Justin is he’s a master life-hacker. I mean, all of us FI people are life-hackers, but Justin takes it a level that impresses even me. This is a guy who deliberately took on student debt because he was able to somehow get it at a rate of 0.75%, then turned around and invested it in treasuries and made money off it. That’s right, Justin actually MADE money off student loans!
So when he told me how little he paid in taxes, I wasn’t surprised. As early retirees, the tax laws in the US and Canada are super accommodating, and often times you can get away with paying almost nothing in taxes even with a million dollar investment portfolio.
But what surprised me was the fact that even while he was working at his full-time job, he was still able to reduce his tax bill to almost nothing. In fact, when he was working, him and his wife were making a combined salary of $150k, yet paid only $150 in taxes! He wrote about how exactly he did it here.
And a cornerstone of his tax strategy was what I like to politely call “double-fisting his retirement plans.” (Incidentally, do NOT do a Google Image search of that term if you’re reading this at work. You’ve been warned.)
Recall that in America, the employer-sponsored retirement accounts vary depending on what type of job you’re in. They all operate (mostly) the same, in that you contribute pre-tax money into it, the employer matches part of it, and you deduct that contribution off your gross income thereby reducing your tax bill. Then in (hopefully early) retirement, you get that money back out without paying taxes or early withdrawal penalties by using a 5-year Roth IRA conversion ladder.
The only thing that differs is the name of the account. They’re arranged like so.
| Retirement Account | Employer Type |
|---|---|
| 401(k) | For-profit companies |
| 403(b) | Non-profit companies |
| 457 | State Employees |
| TSP | Federal Employees |
Super. So the accounts all operate (mostly) the same. You put pre-tax money into it, pick the lowest-fee Index ETF it offers, and you’re off to the races.
Here’s the surprising thing. It’s possible to qualify for multiple accounts at the same time.
For example, if you’re both a state employee AND working at a non-profit, you can open up both a 403(b) AND a 457. And unbelievably, the IRS allows you to contribute the maximum $18k to both accounts, meaning you can reduce your taxable income by $36k!
This is a uniquely American thing, as no other country (to my knowledge) has a retirement system as complicated as the USA, nor does any other country have weirdo tax loopholes like this.
But it’s perfectly legal, but almost nobody does it. They don’t do it because almost nobody realizes it’s possible.
In situations where this is allowed, HR departments never advertise this possibility, so it’s up to the employee to know about it and go out of their way to ask to set it up. In every single situation where we’ve encountered this ability to double-fist *snicker*, the reader was surprised to learn about it. And once they do learn about it, they’re annoyed that they weren’t doing this sooner since in the USA, contribution limits for tax-deferred accounts don’t carry over into future years. If you don’t take advantage of it, that contribution room is gone forever.
So what job types are eligible for retirement account double-fisting?
Well, this isn’t meant to be an exhaustive list, but in our experience:
Health Care Workers
State-run hospitals tend to be non-profit entities, but the employees technically work for the state, so people in this situation can qualify for both a 403(b) AND a 457.
Lawyers
Obviously if you work for a private law firm, you only get a 401(k), but if you work for the government in the prosecutor’s office or some kind of organization that provides legal aid on behalf of the government, you may qualify for a 403(b) AND a 457 or TSP, depending on what level of government provides the funding.
Educators
Specifically, anyone who works for any university or college should look into this. State colleges tend to be structured as non-profits, yet the employees are paid by the state, so you could qualify for both a 403(b) AND a 457. A recent reader case MillennialAcademicScientist was surprised to learn that she could do this and that knowledge shaved a few years off her retirement plan.
Government Contractors
People in this group that we’re aware of include city planners, civil engineers, defence contractors, and IT consultants. If you work for a company that’s a contractor to either the state of the federal government, you may qualify for some combination of 401(k), 403(b), 457, and TSP. This was Justin’s situation.
And again, this is not meant to be an exhaustive list. The key seems to be some kind of arms-length relationship to the government. Meaning that if your employer is related to the government, but not the government itself, then you may be able to do this.
So if you suspect you may qualify for multiple retirement accounts, ask your HR or Payroll department TODAY. And if you find out you do, chime in in the comments below so I can add your job type to this article.
OK that’s it. Peace out!
Continue onto the next article!
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Great article. Must feel really good when you’re paying less in taxes. I was wondering if you can tell us how to save on taxes for the Canadians besides putting the money in RRSP and TFSA any other hacks ???
Those are the main ways for us in the Frozen North. Max out RRSPs, max out TFSAs every year, and take advantage of any RRSP matching schemes offered by your employer.
One thing for Canada that comes to mind that I read on a different site and I don’t think I’ve read here before is that RRSP contribution limits and RRSP deduction limits are two different things. A lot of people think that the amount they contribute to their RRSPs is the same amount that they need to deduct on their taxes for that year, but they can choose to only deduct a portion of it (just enough to drop them down to a lower tax bracket) and carry forward the rest of the deduction for a later year while still maxing out the limits on their tax sheltered accounts.
http://business.financialpost.com/personal-finance/retirement/rrsp/the-difference-between-an-rrsp-contribution-and-deduction
This is a great point Liz! Thanks. I’m just trying to learn about all of this. I have $20k in unused contribution room that I’ve been trying to figure out how to strategically tackle to maximize the tax deduction, because I was always under the assumption that I had to claim whatever I contributed.
Such a simple point that I’ve completely overlooked. 🙂 Thanks!
I love my colleagues, full-time telecommuting, and the six weeks of paid vacation that come with 10+ years’ tenure… but I’d jump ship for a similar salary at the Big State Flagship University two miles up the street in a HEARTBEAT for precisely this reason. Their package offers either a defined benefit program (i.e. a regular old-style pension for suckers who want to work into their 60s) or a 403(b) + 457 plan + 7.25% match. And I’d have a ten-minute commute via bike or public transport.
Holy cow. Just thinking about it is enough to get me perusing job openings again.
Wow that would be a sweet deal. And you wouldn’t even increase your commute costs if you can bike to work.
“If you work for a company that’s a contractor to either the state of the federal government, you may qualify for some combination of 401(k), 403(b), 457, and TSP.”
Do we have any thing similar in Canada. I am contracting to Feds thru a vendor in IT and would love to do some thing like this…
Not to my knowledge. This is a USA-only thing.
When I was working for the state, I had access to the 457 and a state pension plan, which essentially acted like a 401k. No 401k available unfortunately.
Still, this allowed me to double fist my retirement plans, and even better, since the 457 is counted separately from the 401k, I could “triple fist” because I also could set up my own solo 401k and throw in all my side hustle earnings into it.
In other words, when I was at the state, I had access to:
457
State Pension Plan
And my own Solo 401k for my side hustle money.
The one thing to note for anyone in a non-governmental 457 plan is that there is a default risk to it. The money in a 457 is technically deferred comp, which means that if your employer goes bankrupt, creditors can actually take that money since it’s not technically your money yet.
Scary thought, I know, so it’s worth thinking about if you’re at an employer that has a slight possibility of going under. (if you’re in a governmental 457 – i.e. you work for the govt – then your 457 funds are held in trust for you, which means they’re protected the same as your 401k funds).
Ooooh TRIPLE fisting! *Looks up term in Google Image Search* *Runs away screaming*
At the State of NC, we had access to 457, 401k, and a (mandatory) pension contribution of 6% of gross. That meant I was deferring $40k/yr on a ~$70k salary. Paychecks were $800 and I think federal tax withholding was $0.
So funny that this was the topic for today. My bi-weekly paycheck is available for review online on Wednesday mornings. So, I just reviewed and I’ve been thinking about this. I am now set to max my 403b, my 457b, and my 401a (which is mandatory and automatic at my institution).
I was just beating myself up because I can’t afford to make regular contributions to my investment account, but then I remembered that a huge chunk of my paycheck is now going to catch up on the 457b. This will not only help me save intaxes, but will also, hopefully, lower my income-based student loan payments that are currently at $850/month.
Next year I will start early with the 457b. So, hopefully, I won’t feel it as much as I do now. It’s currently 35% of my income. ?
I’m also participating in the commuter savings program and the FSA.
I have read so many different things about HSA, I don’t know what to do. Anybody willing to give advice on this. Do I have to go with the companies my employer suggests for hosting the HSA accounts. Their investment options don’t look great, I don’t think.
I’m new on this journey too. This article helps and his entire collection on tax is very helpful.
http://www.madfientist.com/ultimate-retirement-account/
Thanks!
Oh god… the search terms that will now be associated with my name and my blog…
😉
You’re welcome! Love you Justy!
Holy crap. I just happen to work for a university that offers me both the 403b option and the 457 option. I don’t make enough to max out either one, but I can certainly lower my taxable income significantly! My worry now is the stories I’ve heard of Trump potentially eliminating the Roth conversion ladder loophole. I realize you guys aren’t from ‘Murica but do you have any thoughts on this?
If you can’t max out both yet, max out the 457 first. I believe the 457 doesn’t have early withdrawal penalties for withdrawing before the age of 59 1/2 so you don’t even need to go through the Roth conversion ladder schenanigans for that one.
As for Trump eliminating the loophole, I hadn’t heard of anything to that effect. Do you have a link to an article I can read?
I don’t, I read it on a Choose FI Facebook group thread so it is strictly in the rumor phase for now. I will do some research and see if I can come with anything more concrete.
I read this scary article about them tinkering with the 401ks and this is another reason why I disapprove of this ‘administration’
https://www.washingtonpost.com/news/get-there/wp/2017/08/31/the-gop-is-looking-for-ways-to-pay-for-tax-cuts-your-401k-may-bear-the-cost/?utm_term=.13c73fc16fe5
Great post. I have never really take a close look at my tax before. I’m guessing I’m paying a hell lot more than I should since I never taken in any consideration of deductibles.
How do I go about learning the tax code? I want to do my own tax this year instead of HRB or Turbo or a corporate CPA.
My major question is can I qualify for an additional IRA while still having a 401K?
How do I calculate my MAGI numbers are?
How do I calculate my AGI numbers?
Thanks for all your help.
Cheers,
Z
Yeah taxes are one of those things that are easy to put off learning, but the earlier you make them efficient the bigger effect it has on your retirement date.
The qualification levels for Traditional/Roth IRA when you have access to a 401(k) are dependent on your MAGI. I wrote about it here: https://www.millennial-revolution.com/invest/let-government-fund-retirement/
Scroll down and find the link “IRS Eligibility tables”
As for AGI/MAGI, those are usually around the same and are basically your gross income minus deductions for retirement accounts and such. Here’s an article explaining the details behind the calculations.
https://turbotax.intuit.com/tax-tools/tax-tips/IRS-Tax-Return/What-Is-the-Difference-Between-AGI-and-MAGI-on-Your-Taxes-/INF22699.html
Thanks Wanderer.
Great insight as usual Wanderer. Is there a Canadian equivalent of this or are we out of luck north of the border?
No, I don’t think so. But, you know, we also don’t have to mess around with that Roth IRA conversion ladder business, because we can simply withdraw RRSP money without penalty whenever we choose, plus our unused contribution space gets carried forward from year to year. So we have our own neat things for the Americans to be jealous of. 😉
(Besides, this is fundamentally a pretty unfair way to set up the rules for tax-advantaged accounts – allowing double dipping for some people and not others – so while it would be nice to have on a personal level and all, I would not like to see it implemented in Canada. Not knocking the people who do use it – I would too in their place; you should take whatever options are legally open to you for retirement savings – but this loophole should not exist in the US, IMHO.)
What Lynne said. Our tax code is so much simpler than the American one, it’s hard to be jealous of their system even when certain people get to win a little harder in certain situations.
Remember: Socialized health care! And nobody’s trying to actively dismantle it!
They’re dismantling the doctors by cutting our pay, giving us no benefits, and ramming through a federal tax grab on small corporations (including farmers, vets, and other entrepreneurs). https://petitions.ourcommons.ca/en/Petition/Details?Petition=e-1239
But yes, otherwise, I appreciate socialized health care–and your blog, which I love in a creepy way. 😉
Thanks for this post. I had read Justin’s thoughts on this earlier but never thought about non-profits. That might be a way to get some additional funds socked away – time to do some research – thanks!
It’s free money! Go for it!
I try and pay as little tax as possible and consider less than 10% (we have RRSP, USD and CDN interest income as well) to be incredible. I’ll definitely share this legal loophole with my USA friends.
Besos Sarah.
I was in shock when I started my job that allows for a 401k and 457. Both incomes in my house are from State Employees.
I hadn’t read anywhere on a blog about this (or maybe I breezed right past the info since it didn’t apply). I must have re-read the information ten times, then called HR to confirm. With that and our IRAs talk about a LOT of pre-tax savings 🙂
We pay almost zero federal income tax…we’re not quite as efficient as Justin.
Sweet! Think of us when you’re saving all those sweet sweet pre-tax dollars 🙂
Hey Wanderer, in your “Making your investments Tax Free” Workshop, you mention to use a Roth IRA, whereas Justin uses a Traditional IRA so he can claim the tax deduction. Is there a correct answer for which IRA is more beneficial, or is it a personal preference? I have opened a Roth account, but I may change it to a Traditional account for the tax benefits.
Love your work
Allow me, in Canada, there are a whole boat load of things you can take advantage of , and most do not. Lets run down the list
RRSP – Max it, as long as your income in Retirement will not exeed todays
TFSA – Max for Both Spouses before anything else (5500 each I think, and wow the accumulating per year is asstounding) – Totally non taxable
RESP – Why don’t people do this, the Canadian Government is giving you a 20% Grant, and more if you are low income. Its taxable in my Sons name, we pull 7000 out last year, and he did not pay a dime in tax. (basic exemption, and qualifiying tax credits exeeded)
RDSP and the T2201 – lets talk about this baby, if you can qualify with a disability, and I am not saying its easy, this baby is a gold mine. both my wife and son have a disability, and claiming the care giver amount, and disability tax credit for both, I was able to reduce income by about 15K. The grant money on the RDSP is double the capital investment, and taxable in the recipients name, not yours.
Spousal Basic Exemption – The wife runs her own business, claims heat and hydro as a percentage of her office space in the home, expenses, gas, mileage, all legitimate expenses, and all easy to do via tax software, I file every year. Sometimes she is well below her basic exemption of $11,635, therefore I can claim the remainder.
Life Insurance – did you know its non taxable?
Captial Gains on Residence – Again non taxable, buy the biggest house you can, watch it go up in value, sell, reap the reward…
I do pay tax, but a lot less than the 30% others pay, I think I am closer to 10% of my salary. I guess one day I will have to write my own Blog…
cheers
D.
Good stuff as always Wanderer! I wasn’t one of those people that fell into this “double fisting” category, but we still saved quite a bit in tax advantaged accounts!
Very cool that you guys got to meet up with Justin!
So many different flavors of retirement savings! I work for a private university so I have a 403b but no 457 option (it’s not the government). That said, I really misunderstood my benefits until recently. I have a 5% mandatory contribution, 10% employer contribution, and an elective contribution. The elective contribution is 18k and does not include the mandatory amount (that was where I was confused). I also am on the payroll at a national lab. At the lab there is a mandatory 5% contribution to the 401a retirement plan (not on your list), but I don’t qualify for their 403b or their 457b as a part time contact employee. So, make sure you understand your plan and just because you work for an organization doesn’t mean that you’ll qualify for all of the benefits. Great post!
I work for an academic hospital…so, you’d think I’d be covered under both the ‘educators’ and ‘health care workers’ umbrella. However, I asked HR about this and received this email from a Benefits Specialist: “The 457b benefit is available to a small percentage of highly compensated associates. Affected associates are notified if this is a deferral option for them. ” Any tax experts know why this is the case? I’m wondering if it’s related to how the business is incorporated…for instance, I actually contribute to a 401K, not a 403B.
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This seems to be incorrect. Everywhere else I read on the internet says that the IRS limit ($18,000) applies to all retirement accounts. If you contribute 18k to a 401k and another 18k to a 403b, you will be double taxed for on one of the 18k because you have gone over the limit. No loop hole here.
http://budgeting.thenest.com/403b-401k-limits-combine-24228.html
We were just as surprised as you are that you can contribute to both (see rootofgood’s post on this). But check with your HR department, we’re not tax lawyers.
I found the “loophole”. Actually, it’s not a loophole, it is clearly stated on the IRS’s website that you can do this (see below). But this only works if you have a 457b account and another retirement account. It doesn’t work if you have a 401k and a 403b, for example.
https://www.irs.gov/retirement-plans/how-much-salary-can-you-defer-if-youre-eligible-for-more-than-one-retirement-plan