Personal Finance 101 for Young Lawyers

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JusticeChuckleNutz

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Re: Personal Finance 101 for Young Lawyers

Postby JusticeChuckleNutz » Thu Nov 21, 2019 6:04 pm

papermateflair wrote:
The Lsat Airbender wrote:
JusticeChuckleNutz wrote:All the discussions I have had with coworkers and seen in this thread make it clear that I should max out my 401k contributions. I am going to do so, but I am still a little unclear on why I should do so. It makes me nervous that the 401K amount is untouchable until I am retirement age. I'm trying to get a handle on why this is universal advice. Is the primary benefit that with a biglaw salary (high tax bracket) it reduces your AGI and thus you save $ on taxes? Additionally, the pre-tax amounts are compounding over your lifetime in the market instead of just sitting in a savings account? Are those the primary benefits?


Yeah, and those benefits are huge. Anything you can do with pre-tax money is awesome (especially for people on biglaw salaries) and anything involving compounding gains is awesome. One dollar diverted to your 401(k) in your late twenties is worth like $3 at retirement (taking into account inflation).


Just to add a couple of additional thoughts - since there are annual limits on how much you can put into your 401(k), stub year is a perfect opportunity to put as much in as possible before rolling into the new year. There's also something to be said for the fact that the 401(k) plan can automate a small amount of retirement savings for you - on a Big Law salary you will adjust very quickly to whatever your monthly salary is (it should be plenty, even with student loan payments), and having your 401(k) contributions come off before you really see the money means you're saving almost $20k a year without noticing/feeling any hardship. There are ways to access your 401(k) account early if you have a hardship or if you need to take out a plan loan, although that's obviously not ideal.


Thank you both! That makes a lot of sense. I think my main concern was having too much of my assets tied up in my 401K. However, if I understand you both correctly, I will hit the annual limit and still have plenty of liquid assets for savings/investing. And, if I still needed more liquid $ for some reason, I could take out a plan loan. Does it change the calculus at all if I am late twenties and possibly looking at home ownership sooner than say a K-JD?

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Re: Personal Finance 101 for Young Lawyers

Postby Wubbles » Thu Nov 21, 2019 6:48 pm

JusticeChuckleNutz wrote:
papermateflair wrote:
The Lsat Airbender wrote:
JusticeChuckleNutz wrote:All the discussions I have had with coworkers and seen in this thread make it clear that I should max out my 401k contributions. I am going to do so, but I am still a little unclear on why I should do so. It makes me nervous that the 401K amount is untouchable until I am retirement age. I'm trying to get a handle on why this is universal advice. Is the primary benefit that with a biglaw salary (high tax bracket) it reduces your AGI and thus you save $ on taxes? Additionally, the pre-tax amounts are compounding over your lifetime in the market instead of just sitting in a savings account? Are those the primary benefits?


Yeah, and those benefits are huge. Anything you can do with pre-tax money is awesome (especially for people on biglaw salaries) and anything involving compounding gains is awesome. One dollar diverted to your 401(k) in your late twenties is worth like $3 at retirement (taking into account inflation).


Just to add a couple of additional thoughts - since there are annual limits on how much you can put into your 401(k), stub year is a perfect opportunity to put as much in as possible before rolling into the new year. There's also something to be said for the fact that the 401(k) plan can automate a small amount of retirement savings for you - on a Big Law salary you will adjust very quickly to whatever your monthly salary is (it should be plenty, even with student loan payments), and having your 401(k) contributions come off before you really see the money means you're saving almost $20k a year without noticing/feeling any hardship. There are ways to access your 401(k) account early if you have a hardship or if you need to take out a plan loan, although that's obviously not ideal.


Thank you both! That makes a lot of sense. I think my main concern was having too much of my assets tied up in my 401K. However, if I understand you both correctly, I will hit the annual limit and still have plenty of liquid assets for savings/investing. And, if I still needed more liquid $ for some reason, I could take out a plan loan. Does it change the calculus at all if I am late twenties and possibly looking at home ownership sooner than say a K-JD?

If you are on a biglaw salary and only have 150k in loans, I can't think of a single reason not to max your 401k every year.

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Re: Personal Finance 101 for Young Lawyers

Postby The Lsat Airbender » Thu Nov 21, 2019 7:41 pm

JusticeChuckleNutz wrote:I think my main concern was having too much of my assets tied up in my 401K. However, if I understand you both correctly, I will hit the annual limit and still have plenty of liquid assets for savings/investing. And, if I still needed more liquid $ for some reason, I could take out a plan loan. Does it change the calculus at all if I am late twenties and possibly looking at home ownership sooner than say a K-JD?


Liquidity is valuable, sure, but you'll retire a decade late if you don't aggressively save. A maxed 401(k), debt payments, and a healthy checking account should all be doable for someone on a biglaw salary unless you live way beyond your means (including trying to buy too much house).

Also, if you somehow find yourself with serious cashflow problems you can always turn your 401(k) contributions off for a few paychecks and catch up later. It's mathematically and psychologically better to go too fast and have to slow down than to fall behind on savings and have to catch up later.

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Re: Personal Finance 101 for Young Lawyers

Postby papermateflair » Thu Nov 21, 2019 7:45 pm

JusticeChuckleNutz wrote:
Thank you both! That makes a lot of sense. I think my main concern was having too much of my assets tied up in my 401K. However, if I understand you both correctly, I will hit the annual limit and still have plenty of liquid assets for savings/investing. And, if I still needed more liquid $ for some reason, I could take out a plan loan. Does it change the calculus at all if I am late twenties and possibly looking at home ownership sooner than say a K-JD?


I guess only you know your goals - if you want to buy a home asap and need to save up a giant down payment, and you can't do that AND contribute $20k to your 401(k) plan each year, then you gotta do what you gotta do. I personally wouldn't prioritize buying a house a year sooner over retirement savings, and I think it's important to make retirement savings a priority early, because otherwise there will always be *something* to get in the way - first it's saving for a downpayment, then it's student loans, then it's childcare expenses, then saving for college, and so on. For those with big law salaries retirement savings should be happening alongside all of those things unless there are extenuating circumstances. I wasn't focused on buying a house as a junior associate, but still had plenty left over each month after paying my student loans and contributing to my 401(k) to have saved for a house if that's what I had wanted (and that was back when first year salaries were $30k less than they are now...).

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Re: Personal Finance 101 for Young Lawyers

Postby QContinuum » Sat Nov 23, 2019 1:27 am

The Lsat Airbender wrote:
JusticeChuckleNutz wrote:All the discussions I have had with coworkers and seen in this thread make it clear that I should max out my 401k contributions. I am going to do so, but I am still a little unclear on why I should do so. It makes me nervous that the 401K amount is untouchable until I am retirement age. I'm trying to get a handle on why this is universal advice. Is the primary benefit that with a biglaw salary (high tax bracket) it reduces your AGI and thus you save $ on taxes? Additionally, the pre-tax amounts are compounding over your lifetime in the market instead of just sitting in a savings account? Are those the primary benefits?


Yeah, and those benefits are huge. Anything you can do with pre-tax money is awesome (especially for people on biglaw salaries) and anything involving compounding gains is awesome. One dollar diverted to your 401(k) in your late twenties is worth like $3 at retirement (taking into account inflation).

In addition, 401ks offer "gold-standard" creditor protection, which is one of those things people - even lawyers - don't usually think about until it's too late. But it's very reassuring to me personally (and ought to be reassuring on an objective level as well) to know that whatever happens, I have that chunk of retirement assets that's safe.

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Re: Personal Finance 101 for Young Lawyers

Postby JusticeChuckleNutz » Tue Jan 07, 2020 2:42 pm

1st year BL Associate here. Had a quick question for those more experienced in investing.

So far, I have gotten my emergency fund all set. I have a solid handle on my loans/expenses and am looking to place my surplus savings in a Vanguard investment account. I would like to utilize a S&P 500 index fund. In my situation, am i better off using the index mutual fund or ETF? The minimum investment isn't an issue, just not quite sure of the pros/cons of them. Any advice would be much appreciated!

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Re: Personal Finance 101 for Young Lawyers

Postby The Lsat Airbender » Tue Jan 07, 2020 3:00 pm

TCR is (generally) the ETF, which will (generally) have a lower expense ratio.

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Re: Personal Finance 101 for Young Lawyers

Postby nealric » Wed Jan 08, 2020 10:01 am

JusticeChuckleNutz wrote:1st year BL Associate here. Had a quick question for those more experienced in investing.

So far, I have gotten my emergency fund all set. I have a solid handle on my loans/expenses and am looking to place my surplus savings in a Vanguard investment account. I would like to utilize a S&P 500 index fund. In my situation, am i better off using the index mutual fund or ETF? The minimum investment isn't an issue, just not quite sure of the pros/cons of them. Any advice would be much appreciated!


If you are talking about VOO vs VFINX, there really isn't all that much difference. For some time, the ETF actually gave you "Admiral" shares expense ratio without the same minimum investment, but not sure where they stand now. They are both cheap funds. Some brokerages will trade ETFs a lot cheaper than mutual funds (Wells fargo is ~$25 for mutual funds vs ~$3 for ETFs). The ETFs are easier to trade because you can execute a trade mid day, though index funds like this really aren't for active traders. At the end of the day, we aren't talking big differences- it's the same sandwich in a different wrapper.

Personally, I might recommend VTI (total market) instead of VOO. Its historical performance is slightly better and is even more broadly diversified. I own both and have swapped them for tax loss harvesting purposes before (they are strongly correlated, but different enough that you can sell one to realize a loss and swap to the other without really changing your market exposure much).

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Yugihoe

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Re: Personal Finance 101 for Young Lawyers

Postby Yugihoe » Wed Jan 08, 2020 4:36 pm

JusticeChuckleNutz wrote:1st year BL Associate here. Had a quick question for those more experienced in investing.

So far, I have gotten my emergency fund all set. I have a solid handle on my loans/expenses and am looking to place my surplus savings in a Vanguard investment account. I would like to utilize a S&P 500 index fund. In my situation, am i better off using the index mutual fund or ETF? The minimum investment isn't an issue, just not quite sure of the pros/cons of them. Any advice would be much appreciated!



I'm going to go against both of the above comments and recommend mutual funds. If you have a brokerage account with a large company like Vanguar, I don't think there are any significant difference in fees between ETFs and index funds. I think major funds (US Total Market, Total International Market, Total Bond Market, S&P 500 etc.) are all pretty cheap in terms of expense ratios.

The main difference with going ETFs is that you have more control because you can intra-day trade. The way a mutual fund works is that all trades are executed at market close so you get the NAV price. You're probably looking to invest long term, so the ability to execute at an intra-day price won't really affect you. If anything, it will be more work for you to execute the trade and decide what price to execute at (you could always come out better off or worse off depending on when you do the trade during the day or what limit you set for your sell price). With a mutual fund, you take the guessing out and are at least assured to get whatever the average price is for that day, taking one less obstacle out of your path to just investing.

My recommendation is just keep a simple passive investing profile of maybe 3 funds. Google bogleheads and try to learn some more basics including your ideal asset allocation, then just auto invest your paycheck. What matters in the beginning is just getting in the habit of investing and putting away your money as most of your egg will just grow based on your contributions. Eventually the magic of compounding growth will outsize your contributions.

As an aside, I think you should not do the S&P 500 (or Total World Market like the above person recommended). I have a Vanguard account too and would recommend some balance of VTSAX and VTIAX in your taxable brokerage account.I personally like 70% and 30%. If you do Total World Market, you can't control that balance but that's fine if you are OK with more exposure to international (think total world is either 40 or 50%). VTSAX gives you more exposure to the total US stock market compared to S&P 500, though they generally perform similarly.

Also final piece of advice, I would max out my 401k and roth IRA before you start investing your surplus in your taxable Vanguard account.

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Re: Personal Finance 101 for Young Lawyers

Postby Necho2 » Thu Jan 09, 2020 1:58 am

Yugihoe wrote:
I'm going to go against both of the above comments and recommend mutual funds. If you have a brokerage account with a large company like Vanguar, I don't think there are any significant difference in fees between ETFs and index funds. I think major funds (US Total Market, Total International Market, Total Bond Market, S&P 500 etc.) are all pretty cheap in terms of expense ratios.

The main difference with going ETFs is that you have more control because you can intra-day trade. The way a mutual fund works is that all trades are executed at market close so you get the NAV price. You're probably looking to invest long term, so the ability to execute at an intra-day price won't really affect you. If anything, it will be more work for you to execute the trade and decide what price to execute at (you could always come out better off or worse off depending on when you do the trade during the day or what limit you set for your sell price). With a mutual fund, you take the guessing out and are at least assured to get whatever the average price is for that day, taking one less obstacle out of your path to just investing.

My recommendation is just keep a simple passive investing profile of maybe 3 funds. Google bogleheads and try to learn some more basics including your ideal asset allocation, then just auto invest your paycheck. What matters in the beginning is just getting in the habit of investing and putting away your money as most of your egg will just grow based on your contributions. Eventually the magic of compounding growth will outsize your contributions.

As an aside, I think you should not do the S&P 500 (or Total World Market like the above person recommended). I have a Vanguard account too and would recommend some balance of VTSAX and VTIAX in your taxable brokerage account.I personally like 70% and 30%. If you do Total World Market, you can't control that balance but that's fine if you are OK with more exposure to international (think total world is either 40 or 50%). VTSAX gives you more exposure to the total US stock market compared to S&P 500, though they generally perform similarly.

Also final piece of advice, I would max out my 401k and roth IRA before you start investing your surplus in your taxable Vanguard account.

Aren't mutual funds tax-inefficient in your brokerage account? They're also just a pain when you have to report tiny bits of dividends, etc. that they generate but ETFs don't at tax time...

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Re: Personal Finance 101 for Young Lawyers

Postby Yugihoe » Thu Jan 09, 2020 10:48 am

Necho2 wrote:Aren't mutual funds tax-inefficient in your brokerage account? They're also just a pain when you have to report tiny bits of dividends, etc. that they generate but ETFs don't at tax time...


Source? Hmm I'm not sure what is going on with all the misinformation in this thread so I'll clear up for anyone reading this. What you're saying is completely inaccurate and also conflates different topics.

ETFs, like mutual funds, can both pay dividends. It depends on what the actual fund is. For example, VOO, which is an ETF from Vanguard that tracks the S&P 500, pays dividends quarterly. See https://investor.vanguard.com/etf/profi ... utions/voo

This is just an ETF version of the mutual fund, which also pays dividends quarterly, (VFINX).

The point being, there is no special rule that ETFs dont pay dividends while mutual funds do. You can specifically purchase funds or ETFs that don't pay dividends if you don't want them, although I don't think you should go through the pain of doing this until you have a LARGE balance (and if you are still in big law at that time with a high income).

Second, it's not really a "pain." The brokerage will simply generate a 1099 form for you that lists how much dividends you were paid and you will have to enter one line item into your tax return.

Third, yes, dividends are indeed tax inefficient in your brokerage account because you will be taxed on them. Also inefficient are any bond funds for the same reason - interest will be taxable. While I would recommend you certainly put all your bond holdings into your tax protected account (401k, roth), if you want to hold the most popular index funds, there's no way around not receiving dividends. Again, it's not going to be a huge amount if you're just starting out anyway so it's a moot point. VTSAX likely out performed some other rando fund in 2019 that didn't pay dividends which offset any small tax amounts you had to pay.

Bonus advice -- you're going to reach a point when all your tax advantaged accounts are maxed out already with your bond funds. Let's say your ideal asset allocation is 85% stocks and 15% bonds, and your holdings are large enough that now you need to purchase bonds in your taxable account to keep up with the allocation. In big law you're in the highest tax bracket, and if you live in a high tax jurisdiction like NYC, it might make sense for you to end up buying a tax-free muni mutual fund like VNYTX (Vanguard New York Long-Term Tax-Exempt Fund Investor Shares). Again, this is all down the line and I recommend you just start with a simple 3 fund portfolio until you need to get into this.

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Re: Personal Finance 101 for Young Lawyers

Postby notinbiglaw » Thu Jan 09, 2020 12:18 pm

I have taken an out of sight out of mind approach to savings.

I just divert 1000 per paycheck to a savings account that I can't see when I log into my main bank where I have my checking account. This is my emergency/vacation fund and I only check it when my wife and I plan our vacations.

I ship 2k per paycheck into checking. A little half of that ends up in rent/misc that I transfer to the household joint checking. I just spend the rest as I see fit.

Rest straight into 401k and other investment accounts.

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Re: Personal Finance 101 for Young Lawyers

Postby JusticeChuckleNutz » Thu Jan 09, 2020 3:40 pm

Yugihoe wrote:
JusticeChuckleNutz wrote:1st year BL Associate here. Had a quick question for those more experienced in investing.

So far, I have gotten my emergency fund all set. I have a solid handle on my loans/expenses and am looking to place my surplus savings in a Vanguard investment account. I would like to utilize a S&P 500 index fund. In my situation, am i better off using the index mutual fund or ETF? The minimum investment isn't an issue, just not quite sure of the pros/cons of them. Any advice would be much appreciated!



I'm going to go against both of the above comments and recommend mutual funds. If you have a brokerage account with a large company like Vanguar, I don't think there are any significant difference in fees between ETFs and index funds. I think major funds (US Total Market, Total International Market, Total Bond Market, S&P 500 etc.) are all pretty cheap in terms of expense ratios.

The main difference with going ETFs is that you have more control because you can intra-day trade. The way a mutual fund works is that all trades are executed at market close so you get the NAV price. You're probably looking to invest long term, so the ability to execute at an intra-day price won't really affect you. If anything, it will be more work for you to execute the trade and decide what price to execute at (you could always come out better off or worse off depending on when you do the trade during the day or what limit you set for your sell price). With a mutual fund, you take the guessing out and are at least assured to get whatever the average price is for that day, taking one less obstacle out of your path to just investing.

My recommendation is just keep a simple passive investing profile of maybe 3 funds. Google bogleheads and try to learn some more basics including your ideal asset allocation, then just auto invest your paycheck. What matters in the beginning is just getting in the habit of investing and putting away your money as most of your egg will just grow based on your contributions. Eventually the magic of compounding growth will outsize your contributions.

As an aside, I think you should not do the S&P 500 (or Total World Market like the above person recommended). I have a Vanguard account too and would recommend some balance of VTSAX and VTIAX in your taxable brokerage account.I personally like 70% and 30%. If you do Total World Market, you can't control that balance but that's fine if you are OK with more exposure to international (think total world is either 40 or 50%). VTSAX gives you more exposure to the total US stock market compared to S&P 500, though they generally perform similarly.

Also final piece of advice, I would max out my 401k and roth IRA before you start investing your surplus in your taxable Vanguard account.


I really appreciate you providing me with this information. It is exactly what I was looking for. Also, I can't thank you enough for pointing me in the direction of Bogleheads, Holy shit; what a gold mine! Perfect, easily understood explainers on financial planning, index funds, asset allocation, three fund portfolios, etc. So glad you let me know about it -- will be invaluable going forward.

One other quick question on your last point. I had the understanding that a roth ira had strict income limits on it, meaning as a BL associate I would not be able to utilize it. In order to max out my roth IRA prior to investing, would I use the mega backdoor roth ira? Is that what your comment is getting at?

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Yugihoe

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Re: Personal Finance 101 for Young Lawyers

Postby Yugihoe » Thu Jan 09, 2020 4:11 pm

JusticeChuckleNutz wrote:
I really appreciate you providing me with this information. It is exactly what I was looking for. Also, I can't thank you enough for pointing me in the direction of Bogleheads, Holy shit; what a gold mine! Perfect, easily understood explainers on financial planning, index funds, asset allocation, three fund portfolios, etc. So glad you let me know about it -- will be invaluable going forward.

One other quick question on your last point. I had the understanding that a roth ira had strict income limits on it, meaning as a BL associate I would not be able to utilize it. In order to max out my roth IRA prior to investing, would I use the mega backdoor roth ira? Is that what your comment is getting at?


No problem. I love this topic and wish people in real life would ask me lmao i can't even convince my family, significant others, etc. to care more about it, even though it would be so good for them.

Not mega backdoor, just backdoor roth. Yes your income will be too high to directly contribute to a roth ira. Instead, open up an IRA account with Vanguard and fund it with $6500, which I think is the max this year. As soon as the funds settle, the very next day, go ahead and use the online option they have to convert it to a roth account. Rinse and repeat next taxable year and so on. IMPORTANT: This assumes you don't already have an IRA account with funds in it already. If you do, note that any conversion is done on a pro-rata basis so that means if you had 80k stashed away in an IRA account with 20k of gains for a total of $100k in such account, and you converted $6500 per the above, the IRS would say it is done on a pro-rata basis. So 20% of the $6500 converted would be deemed to be profit from your gains and would be a taxable event.

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Re: Personal Finance 101 for Young Lawyers

Postby wwfeds » Thu Jan 09, 2020 4:53 pm

Yugihoe wrote: Instead, open up an IRA account with Vanguard and fund it with $6500, which I think is the max this year. As soon as the funds settle, the very next day, go ahead and use the online option they have to convert it to a roth account. Rinse and repeat next taxable year and so on. IMPORTANT: This assumes you don't already have an IRA account with funds in it already. If you do, note that any conversion is done on a pro-rata basis so that means if you had 80k stashed away in an IRA account with 20k of gains for a total of $100k in such account, and you converted $6500 per the above, the IRS would say it is done on a pro-rata basis. So 20% of the $6500 converted would be deemed to be profit from your gains and would be a taxable event.


The limit on IRA contributions is still 6,000. Only 401k contribution limits went up to 19,500.

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Re: Personal Finance 101 for Young Lawyers

Postby nealric » Thu Jan 09, 2020 5:19 pm

Yugihoe wrote:
JusticeChuckleNutz wrote:
I really appreciate you providing me with this information. It is exactly what I was looking for. Also, I can't thank you enough for pointing me in the direction of Bogleheads, Holy shit; what a gold mine! Perfect, easily understood explainers on financial planning, index funds, asset allocation, three fund portfolios, etc. So glad you let me know about it -- will be invaluable going forward.

One other quick question on your last point. I had the understanding that a roth ira had strict income limits on it, meaning as a BL associate I would not be able to utilize it. In order to max out my roth IRA prior to investing, would I use the mega backdoor roth ira? Is that what your comment is getting at?


No problem. I love this topic and wish people in real life would ask me lmao i can't even convince my family, significant others, etc. to care more about it, even though it would be so good for them.

Not mega backdoor, just backdoor roth. Yes your income will be too high to directly contribute to a roth ira. Instead, open up an IRA account with Vanguard and fund it with $6500, which I think is the max this year. As soon as the funds settle, the very next day, go ahead and use the online option they have to convert it to a roth account. Rinse and repeat next taxable year and so on. IMPORTANT: This assumes you don't already have an IRA account with funds in it already. If you do, note that any conversion is done on a pro-rata basis so that means if you had 80k stashed away in an IRA account with 20k of gains for a total of $100k in such account, and you converted $6500 per the above, the IRS would say it is done on a pro-rata basis. So 20% of the $6500 converted would be deemed to be profit from your gains and would be a taxable event.


I would point out, however, that if your firm/company's 401k plan allows the mega back door (requires a plan that allows post tax contributions and in-service rollovers), do it to the limit if you can at all afford it. It's pretty much the best tax break out there for the upper middle class, and I'm sort of flabbergasted that Congress hasn't shut it down since the loophole was created in 2010 and that more people don't know about it. Not sure how many firms have plans with these features. My F500 company has a plan that allows it, but my biglaw spouse's plan does not take post-tax contributions.

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Re: Personal Finance 101 for Young Lawyers

Postby JusticeChuckleNutz » Thu Jan 09, 2020 5:27 pm

Yugihoe wrote:
JusticeChuckleNutz wrote:
I really appreciate you providing me with this information. It is exactly what I was looking for. Also, I can't thank you enough for pointing me in the direction of Bogleheads, Holy shit; what a gold mine! Perfect, easily understood explainers on financial planning, index funds, asset allocation, three fund portfolios, etc. So glad you let me know about it -- will be invaluable going forward.

One other quick question on your last point. I had the understanding that a roth ira had strict income limits on it, meaning as a BL associate I would not be able to utilize it. In order to max out my roth IRA prior to investing, would I use the mega backdoor roth ira? Is that what your comment is getting at?


No problem. I love this topic and wish people in real life would ask me lmao i can't even convince my family, significant others, etc. to care more about it, even though it would be so good for them.

Not mega backdoor, just backdoor roth. Yes your income will be too high to directly contribute to a roth ira. Instead, open up an IRA account with Vanguard and fund it with $6500, which I think is the max this year. As soon as the funds settle, the very next day, go ahead and use the online option they have to convert it to a roth account. Rinse and repeat next taxable year and so on. IMPORTANT: This assumes you don't already have an IRA account with funds in it already. If you do, note that any conversion is done on a pro-rata basis so that means if you had 80k stashed away in an IRA account with 20k of gains for a total of $100k in such account, and you converted $6500 per the above, the IRS would say it is done on a pro-rata basis. So 20% of the $6500 converted would be deemed to be profit from your gains and would be a taxable event.


Got it. And this is beneficial because a roth IRA is a tax advantaged account and therefore won't be taxed on capital gains whereas a taxable vanguard account will be taxed? Is that the reasoning behind why to max out roth ira prior to using a taxable vanguard account?

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Re: Personal Finance 101 for Young Lawyers

Postby JusticeChuckleNutz » Thu Jan 09, 2020 5:34 pm

nealric wrote:
Yugihoe wrote:
JusticeChuckleNutz wrote:
I really appreciate you providing me with this information. It is exactly what I was looking for. Also, I can't thank you enough for pointing me in the direction of Bogleheads, Holy shit; what a gold mine! Perfect, easily understood explainers on financial planning, index funds, asset allocation, three fund portfolios, etc. So glad you let me know about it -- will be invaluable going forward.

One other quick question on your last point. I had the understanding that a roth ira had strict income limits on it, meaning as a BL associate I would not be able to utilize it. In order to max out my roth IRA prior to investing, would I use the mega backdoor roth ira? Is that what your comment is getting at?


No problem. I love this topic and wish people in real life would ask me lmao i can't even convince my family, significant others, etc. to care more about it, even though it would be so good for them.

Not mega backdoor, just backdoor roth. Yes your income will be too high to directly contribute to a roth ira. Instead, open up an IRA account with Vanguard and fund it with $6500, which I think is the max this year. As soon as the funds settle, the very next day, go ahead and use the online option they have to convert it to a roth account. Rinse and repeat next taxable year and so on. IMPORTANT: This assumes you don't already have an IRA account with funds in it already. If you do, note that any conversion is done on a pro-rata basis so that means if you had 80k stashed away in an IRA account with 20k of gains for a total of $100k in such account, and you converted $6500 per the above, the IRS would say it is done on a pro-rata basis. So 20% of the $6500 converted would be deemed to be profit from your gains and would be a taxable event.


I would point out, however, that if your firm/company's 401k plan allows the mega back door (requires a plan that allows post tax contributions and in-service rollovers), do it to the limit if you can at all afford it. It's pretty much the best tax break out there for the upper middle class, and I'm sort of flabbergasted that Congress hasn't shut it down since the loophole was created in 2010 and that more people don't know about it. Not sure how many firms have plans with these features. My F500 company has a plan that allows it, but my biglaw spouse's plan does not take post-tax contributions.


My firm's plan actually does allow this. At this point, I don't think could afford to contribute to the limit but may definitely come in handy in future years. Would this be more advantageous than converting the IRA to a Roth IRA because you would avoid the 6K contribution limit?

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nealric

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Re: Personal Finance 101 for Young Lawyers

Postby nealric » Thu Jan 09, 2020 5:41 pm

JusticeChuckleNutz wrote:
nealric wrote:
Yugihoe wrote:
JusticeChuckleNutz wrote:
I really appreciate you providing me with this information. It is exactly what I was looking for. Also, I can't thank you enough for pointing me in the direction of Bogleheads, Holy shit; what a gold mine! Perfect, easily understood explainers on financial planning, index funds, asset allocation, three fund portfolios, etc. So glad you let me know about it -- will be invaluable going forward.

One other quick question on your last point. I had the understanding that a roth ira had strict income limits on it, meaning as a BL associate I would not be able to utilize it. In order to max out my roth IRA prior to investing, would I use the mega backdoor roth ira? Is that what your comment is getting at?


No problem. I love this topic and wish people in real life would ask me lmao i can't even convince my family, significant others, etc. to care more about it, even though it would be so good for them.

Not mega backdoor, just backdoor roth. Yes your income will be too high to directly contribute to a roth ira. Instead, open up an IRA account with Vanguard and fund it with $6500, which I think is the max this year. As soon as the funds settle, the very next day, go ahead and use the online option they have to convert it to a roth account. Rinse and repeat next taxable year and so on. IMPORTANT: This assumes you don't already have an IRA account with funds in it already. If you do, note that any conversion is done on a pro-rata basis so that means if you had 80k stashed away in an IRA account with 20k of gains for a total of $100k in such account, and you converted $6500 per the above, the IRS would say it is done on a pro-rata basis. So 20% of the $6500 converted would be deemed to be profit from your gains and would be a taxable event.


I would point out, however, that if your firm/company's 401k plan allows the mega back door (requires a plan that allows post tax contributions and in-service rollovers), do it to the limit if you can at all afford it. It's pretty much the best tax break out there for the upper middle class, and I'm sort of flabbergasted that Congress hasn't shut it down since the loophole was created in 2010 and that more people don't know about it. Not sure how many firms have plans with these features. My F500 company has a plan that allows it, but my biglaw spouse's plan does not take post-tax contributions.


My firm's plan actually does allow this. At this point, I don't think could afford to contribute to the limit but may definitely come in handy in future years. Would this be more advantageous than converting the IRA to a Roth IRA because you would avoid the 6K contribution limit?


The advantage is just in the higher limit. It's six of one half a dozen of another if you are only going to contribute $6k. Some plans allow automatic Roth conversions for post tax contributions, which is an advantage over a manual backdoor Roth. My plan requires me to call and limits the number per year, which is annoying and costs money.

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Yugihoe

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Re: Personal Finance 101 for Young Lawyers

Postby Yugihoe » Thu Jan 09, 2020 6:00 pm

Oh right, my bad, it is indeed 6k. I funded it on Jan 2nd and forgot about it.

Also, pretty darn lucky. Most big law firms i know don't have mega back door options and I have never been able to use it. Just means you can convert more right? Yes, the advantage is that any gains in the roth won't be taxed in the future, whereas, you will eventually have to pay the tax piper on gains in your taxable account when you sell. I would of course also max out your pre-tax 401k (19500) that the law firm offers.

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Re: Personal Finance 101 for Young Lawyers

Postby FND » Tue Jan 14, 2020 11:25 pm

Primer on Roth IRA vs traditional IRA (also goes for Roth 401k)

With a traditional IRA, you put in pre-tax dollars, which grow tax free, and you pay tax when you withdraw.
With a Roth IRA, you pay tax on your income, then it grows tax free, and withdrawals are tax free.

Whether you're better off with a Roth or with a traditional IRA depends on your tax rate when you make your contributions and your tax rate when you make your withdrawals. If your current tax rate is higher, a traditional IRA is better, if your future tax rate is higher, a Roth IRA is better.

If you make senior partner, lateral into good business opportunities, you invest really well, or Bernie Sanders wins the election, there's a good chance you'll be in a higher tax bracket when you retire, so a Roth is better.

If, on the other hand, you miss the biglaw boat and work shitlaw all your life, your earnings barely keep up with your cost of living, or you have a medical emergency that wipes you out, you'll be in a lower tax bracket when you retire, so a traditional IRA is better.

Example 1:
Pre-tax contribution: $1,000
Current tax rate: 30%
Contribution Traditional: $1000 Contribution Roth: $700
Growth rate: 8%
Time: 9 years
Future Balance Traditional: $2000 Future Balance Roth: $1400
Future Tax Rate: 20%
Withdrawal Amount Traditional: $1600 Withdrawal Roth $1400

Pre-tax contribution: $1,000
Current tax rate: 30%
Contribution Traditional: $1000 Contribution Roth: $700
Growth rate: 8%
Time: 9 years
Future Balance Traditional: $2000 Future Balance Roth: $1400
Future Tax Rate: 30%
Withdrawal Amount Traditional: $1400 Withdrawal Roth $1400

Pre-tax contribution: $1,000
Current tax rate: 30%
Contribution Traditional: $1000 Contribution Roth: $700
Growth rate: 8%
Time: 9 years
Future Balance Traditional: $2000 Future Balance Roth: $1400
Future Tax Rate: 40%
Withdrawal Amount Traditional: $1200 Withdrawal Roth $1400

However, ignoring tax differences, or assuming the tax rate will be the same, if you max out your contributions, a Roth is better, because while the nominal contribution limit is the same, because Roth contributions are made with after-tax dollars, it effectively allows for a greater contribution:

Trad. Pre-tax contribution: $6,000 Roth Pre-tax Contribution $8,571
Current tax rate: 30%
Contribution Traditional: $6000 Contribution Roth: $6000
Growth rate: 8%
Time: 9 years
Future Balance Traditional: $12000 Future Balance Roth: $12000
Future Tax Rate: 30%
Withdrawal Amount Traditional: $8400 Withdrawal Roth $12000

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Re: Personal Finance 101 for Young Lawyers

Postby Libya » Wed Jan 15, 2020 12:20 am

Is the benefit of the tax deferral in a 401(k) really worth the (obviously personal) illiquidity cost? Also what about the potential risk of future taxes being significantly higher? If the point is for me to reach financial independence as early as possible then why not focus on loans and liquid assets first? Asking as someone with a high debt load who would want to be free to pursue a lower-paying path like clinical professor or part-time solo practice mixed with pro bono by their late 40s early 50s. Obviously, I realize people with little or no debt should be maxing out the 401(k) in addition to building savings

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Re: Personal Finance 101 for Young Lawyers

Postby The Lsat Airbender » Wed Jan 15, 2020 9:18 am

Libya wrote:Is the benefit of the tax deferral in a 401(k) really worth the (obviously personal) illiquidity cost?


Generally, yeah, because you can draw down the balance strategically to minimize your tax footprint in retirement. Also, "loans and liquid assets" are rarely going to beat long-term investments in terms of ROI so it's not even an apples-to-apples comparison.

If you're trying to pseudo-retire around 50 then you want to max out traditional retirement options and build a warchest to get you through your fifties. Shortchanging the former to fund the latter means either retiring later, because you need to catch up, or going broke in mid-/late-retirement.

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Re: Personal Finance 101 for Young Lawyers

Postby Anonymous User » Wed Jan 15, 2020 11:10 am

The Lsat Airbender wrote:
Libya wrote:Is the benefit of the tax deferral in a 401(k) really worth the (obviously personal) illiquidity cost?


Generally, yeah, because you can draw down the balance strategically to minimize your tax footprint in retirement. Also, "loans and liquid assets" are rarely going to beat long-term investments in terms of ROI so it's not even an apples-to-apples comparison.

If you're trying to pseudo-retire around 50 then you want to max out traditional retirement options and build a warchest to get you through your fifties. Shortchanging the former to fund the latter means either retiring later, because you need to catch up, or going broke in mid-/late-retirement.


That makes sense although I am a bit wary about the loans and long term investments doing worse than ROI on stocks bc that’s based in historical data (which I know some experts find to not necessarily be predictive) my average loan rate is going to be at about 7% for sure; also, by liquid assets I meant a portfolio of mainly ETFs same as I would have in a 401(k). I guess Ideal outcome would be max 401(k) AND build war chest up but I am wary about not paying down my loans fast enough (starting off at at least ~50K a year and then increasing as I make more at firm), and also don’t want to live ~too~ frugally in biglaw since my professional life will be so hard/stressful. On the other hand I could always burn out and go into a lower paying state-local gov job after a year or two and LRAP, so maybe it isn’t best to payoff too aggressively in case I can’t hack it in biglaw right?

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nealric

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Re: Personal Finance 101 for Young Lawyers

Postby nealric » Wed Jan 15, 2020 2:39 pm

FND wrote:Primer on Roth IRA vs traditional IRA (also goes for Roth 401k)

With a traditional IRA, you put in pre-tax dollars, which grow tax free, and you pay tax when you withdraw.
With a Roth IRA, you pay tax on your income, then it grows tax free, and withdrawals are tax free.

Whether you're better off with a Roth or with a traditional IRA depends on your tax rate when you make your contributions and your tax rate when you make your withdrawals. If your current tax rate is higher, a traditional IRA is better, if your future tax rate is higher, a Roth IRA is better.

If you make senior partner, lateral into good business opportunities, you invest really well, or Bernie Sanders wins the election, there's a good chance you'll be in a higher tax bracket when you retire, so a Roth is better.

If, on the other hand, you miss the biglaw boat and work shitlaw all your life, your earnings barely keep up with your cost of living, or you have a medical emergency that wipes you out, you'll be in a lower tax bracket when you retire, so a traditional IRA is better.

Example 1:
Pre-tax contribution: $1,000
Current tax rate: 30%
Contribution Traditional: $1000 Contribution Roth: $700
Growth rate: 8%
Time: 9 years
Future Balance Traditional: $2000 Future Balance Roth: $1400
Future Tax Rate: 20%
Withdrawal Amount Traditional: $1600 Withdrawal Roth $1400

Pre-tax contribution: $1,000
Current tax rate: 30%
Contribution Traditional: $1000 Contribution Roth: $700
Growth rate: 8%
Time: 9 years
Future Balance Traditional: $2000 Future Balance Roth: $1400
Future Tax Rate: 30%
Withdrawal Amount Traditional: $1400 Withdrawal Roth $1400

Pre-tax contribution: $1,000
Current tax rate: 30%
Contribution Traditional: $1000 Contribution Roth: $700
Growth rate: 8%
Time: 9 years
Future Balance Traditional: $2000 Future Balance Roth: $1400
Future Tax Rate: 40%
Withdrawal Amount Traditional: $1200 Withdrawal Roth $1400

However, ignoring tax differences, or assuming the tax rate will be the same, if you max out your contributions, a Roth is better, because while the nominal contribution limit is the same, because Roth contributions are made with after-tax dollars, it effectively allows for a greater contribution:

Trad. Pre-tax contribution: $6,000 Roth Pre-tax Contribution $8,571
Current tax rate: 30%
Contribution Traditional: $6000 Contribution Roth: $6000
Growth rate: 8%
Time: 9 years
Future Balance Traditional: $12000 Future Balance Roth: $12000
Future Tax Rate: 30%
Withdrawal Amount Traditional: $8400 Withdrawal Roth $12000


The deduction for traditional IRA contributions has income caps, so for Biglaw and other highly-paid jobs, you will be doing post-tax IRA contributions with a backdoor Roth. Under current tax law, nobody who is in the 30% bracket gets a deduction for a traditional IRA contribution.

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