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Grad School and Retirement--Help?

"I'm 22 right now, and hope that my income rises over the course of my lifetime. However, I'm thinking of going to grad school, and my income would fall sharply. Am I better off contributing to a Roth account because my tax rate is (hopefully) lower than it will be when I'm older, or should I go with a traditional retirement plan and roll it over if/when I go to grad school?"

Since you phrased this as an either/or question, I am going to assume that you are going to contribute $5500 or less to either account during 2013.  If you plan to contribute more than this you may want to explore a combination of both accounts.  The first item to consider is whether you are eligible to receive an employer match in your retirement plan.  This could represent “free” money from your employer that goes into your account.   This could prove to be a moot point however depending on your vesting schedule and how long you intend to be with your company.

What I mean by that last statement is that your company may require you to stay employed for a certain amount of time before their employer match is yours to keep.  For instance, they may say that after one year 20% is yours and after two years 40% is yours, etc.  Some companies consider 100% to be yours immediately.  You need to make sure you understand this and factor this into how long you plan on staying with the company.

If you determine you will be able to earn some of that “free” money then that may be the better bet.  If there isn’t a company match or you won’t be around long enough to benefit from it then you should open a Roth IRA.  It appears you understand the benefits of making a contribution to a Roth now because of your lower tax rate, but there is another reason to explore this option.

Contributions that you make to a Roth IRA are after tax contributions, and thus, you are able to withdraw these at any point.  I bring this up because you are considering grad school.  I don’t know anything about how you expect to fund grad school, but having money in a Roth IRA is an option that you probably wouldn’t have with your retirement plan.  Please don’t think I am encouraging you to use these funds to pay for grad school because having money in a Roth IRA is very powerful.  All I am saying is that it provides you with another option.  I am a big believer that even though we all try our best to plan for the future, we never know what that future will hold.  Options are always a good thing to factor into your immediate decision making.

I hope this was helpful, and I am glad you are thinking about these things at your age.