Roth IRA vs. 401k
First, It’s important to clarify that there are two options with both the 401k and an IRA. The Traditional IRA has contributions that are made with before-taxed money and ROTH that has contributions are made with after-tax money. For the sake of this article, I’m just going to review the differences between the Roth IRA and the Traditional 401k. In other articles, I’ll be reviewing all the other options.
When most people think of Roth IRA vs. 401k, they typically think of the tax benefits of having one versus the other.
However, which one is better?
The answer to that question really depends on the individual’s tax circumstances both now and in the future. Calculating future tax’s can be difficult so information about your overall current assets and current tax bracket relative to retirement projected tax bracket are necessary to performing your Roth versus traditional 401K analysis. In this article we will explain the difference between the Roth IRA & 401K so you can understand the best balance between the two for your Goals!
Both options offer tax benefits and they can be very beneficial. However, there are differences between both. Contributions to the Roth IRA are after-tax which means the money is going to grow tax-free if withdrawn after 59 ½. On the other side, the contributions for the 401k are before-tax which means you’ll need to pay taxes when you withdraw the money, and the money won’t grow tax-free
I’ll highlight the pros and cons of each option and underline which option might be the best for your situation.
- Tax-free growth
- Tax-free withdrawal after 59 ½
- You can withdraw contributions without penalty but not the profits
- Can’t write off since it’s after-tax money
- Investment Flexibility
- No fees (not in every case but you have the opportunity to low down your fees).
- 6k annual limit contribution (7k if you’re over 50 years old)
- 10% penalty plus taxes for withdrawing profits before 59 ½
- High Limit contribution = $19,500 per year
- Employer match (explain below)
- Tax write off (tax deduction)
- If withdrawn before age 59 ½ you are gonna have to pay 10% penalty plus ordinary income tax
- No investment flexibility, you have to go with your current employer investment portfolio
- Force to withdraw the money by the age of 70 ½
- High Fees
What is an employer match in a 401k?
What an employer match basically means, is that your employer will give you a percentage of your 401k contribution, it can be 100% or 50% of your contribution. For example, if you contribute $3,000 to your 401k and your employer contributes 100% of your contributions, that means your employer will match those 3k and contribute it to your 401k retirement account. Then again, these matches depend on the employer, some contribute more than others. We recommend you to ask your employer if they offer a 401k match, if they do you should always contribute as much as you can and ask for that match.
Which one is better for you Roth IRA vs 401k?
It all depends on what tax bracket you are right now. The Roth IRA can be better for you, if you are in a low tax bracket and planning to get to a higher tax bracket, to open up and contribute to a Roth IRA account, and this is due to the post-tax contributions. However, if you are in a higher tax bracket it wouldn’t be as beneficial to only contribute to your Roth IRA for the same reason.
In the case you are in high tax bracket right now, it would make a lot of sense to you to contribute to your 401k (in case your employer offers it) and deduct those contributions today, and then when you retire, which might be the case that you’d in a lower tax bracket because you don’t work anymore or don’t receive the amount of income that before you retired, it’d make more sense for you if you withdraw your 401k money in a lower tax bracket.
AnnuityEdu’s Take on Roth IRA vs 401k
Well after reviewing the pros and the cons of each plan we can say that having one or both can be very beneficial for your retirement. So always follow the tax-bracket as a rule of thumb, depending on what tax bracket you are right now, you should prioritize which account you are going to contribute the most. However, if it is within your possibilities, the best call would be to max out each account each year, but that’s not the case for everyone.
Always remember to ask your employer if they offer 401k match, and if they do, try to always contribute as much as you can, because the money that they would match is literally free money for your retirement.
If you still have any doubts about what to do with your Roth IRA vs 401k, you can reach out to a Certified Financial Planner™ Professional to run the numbers and create a Retirement Income Analysis customized for your specific situation. There is absolutely no cost or obligation, and you won’t have to worry about a high-pressure sales pitch. Allow yourself to become educated about this powerful option for generating a lifetime of safe, flexible retirement income.