Pre-tax vs Post-tax Options

Photo by  maxsattana /iStock / Getty Images

Photo by maxsattana/iStock / Getty Images

I recently had a question asked of me regarding investing in retirement plans versus investing in a non-retirement account.  The question that is asked is whether to invest in a pretax account with higher total fees or invest in a post-tax account with much lower fees.  It may seem as simple as multiplying the fee percentage against the amount invested and comparing those numbers.  The answer is not necessarily that simple.  There are several components to the answer: 

Rationale for Employer Sponsored Retirement Plan

A retirement plan is pretax investment savings allowing for growth, harvesting of gains and redeploying funds without current tax consequences.  Realized investment gains external from a retirement plan, post-tax, are taxed at a rate of 15% to 20% in the year the gains occur.  Retirement plans offer the opportunity to invest on a pretax basis during higher income earnings and higher tax rate years, while ultimate withdrawals occur during the retirement years in which both income and taxes are less. Many retirement plans offer the ability to invest in mutual funds at preferred internal costs, as well as reduced or waived commissions which may not be available to the individual investor.  Employer sponsored retirement plans often provide access to investment specialists who are available to assist in developing a current plan for future benefits.  Making use of the tools offered by the Plan can be very beneficial.  As a plan participant, either the employer or employee is paying for these benefits and it is unfortunate if these opportunities are unused.

Investment Strategy

The asset allocation is a primary consideration for the overall investments and setting goals for the future.  Determining your anticipated work years, years in retirement and risk tolerance, which can and will change over time, are vital to ensuring a positive financial future.  Creating an allocation that is too conservative will not allow the portfolio to grow sufficiently to meet future needs.  An individual in the early years of employment may create a portfolio that will allow for a larger portion of the retirement account to be in investments with a higher, yet calculated risk.  This allows for a growth rate that is anticipated to meet and hopefully exceed inflation.  Discussions with investment professionals is a good way to develop a strategy that is acceptable to your risk tolerance and creates the allocation to provide a desired retirement.  Individuals in later retirement years may elect to reduce the amount of equity, but not eliminate it.  A diverse portfolio that is adjusted as time evolves is an effective tool.  Both active and passive management should be a part of the overall strategy. 

Taxes – Effect of pretax savings on wages/total income

Based on gross wages of $60,000, single taxpayer, simple tax return provides for a Federal tax savings of $2700.00.  Additional savings occurs, as well in State taxation, but to a lesser degree.


The total expense related to the employer sponsored retirement plans has potentially three components of regular fees assessed the participant or employer.  Those components include trustee/custodian oversight, record-keeping and internal fees of the mutual funds. Each of the investment strategies has an expense ratio associated with it.  Obtaining the percentages is important to ensure accurate comparison of the routine fees. Fixed Income and Index funds generally have a lower expense ratios than actively managed equity investments.  Analysis of fees should be at a comparison of like investment strategies.  Total fees in the range of 1% are common, 1% is equivalent to $10.00 per every $1,000 of the account value.  The investment performance in comparison to the expense ratios is another way to assist in determining effectiveness.

Employer contributions

Employers often offer incentive to save for retirement by providing a contribution to employee accounts.  The contributions are usually within the .50% to 3% range, but some may offer even more.  While some require employees to contribute a minimum percentage of wages, others provide the contribution without strings.  The employer contribution is free money and should not be ignored. 

Final words

The use of both pretax and post-tax investments is important in building a total investment picture.  I believe that they both serve a purpose.  I believe, based on information sited above and details related, that placing a significant amount up to the maximum in retirement ($18,000 for those under 55 and $24,000 for those 55 and over), benefits now and in the future.  The cost of the investment opportunity to the tax savings should be reviewed.  The tax savings is usually substantial and directly beneficial.  Making sure to compare services provided by pretax and post-tax investment providers, like asset costs, tax savings and employer contributions is vital in making a decision that is right for your future.  These are my thoughts and I hope that they are helpful.


Diane Ohns