With the Roth IRA, recall that contributions are limited to $5,500 per year ($6,500 if over the age of 50) but restricted based on adjusted gross income (AGI). However, the Roth 401(k) will allow for an $18,000 deferral ($24,000 if you over the age of 50) and no limit based on AGI. Let me repeat that, those who make over the AGI limits for a Roth IRA may be able to contribute to a Roth 401(k) if their plan allows and have the ability put away over 3x’s the amount than allowed with the Roth IRA. YES, you heard that correctly!
Some other key differences to keep in mind are:
While Roth IRAs do not have required minimum distributions, funds left in a Roth 401(k) do. Distributions remain tax free, however, the required minimum distribution rules apply.
Qualified distributions (those that avoid penalties, income tax or both) are different for Roth IRAs and Roth 401(k)s. Be sure to know what those are and what represents a qualifying distribution for each.
You can rollover Roth 401(k)s into a Roth IRA, however, Roth IRAs cannot be rolled into Roth 401(k)s.
For those not eligible for a Roth IRA contribution, knowing your employer sponsored plan and the option to defer to the Roth portion can be extremely beneficial. Make sure you have an understanding of both and what suits your situation best.
Does your employer offer a 401(k)? How about the option to defer to a Roth 401(k)? If you do not know the answers to these questions, congratulations, you have your first piece of homework. Knowing the details of your employer sponsored plan is critical. We have written a couple blogs on the importance of taking advantage of your employer sponsored plan and I have another tidbit that is often overlooked: the ability to contribute to the Roth 401(k) for high-income earners.
The Roth IRA and Roth 401(k) have a lot in common, yet, key differences set them apart. For example, both give you the ability to save with after-tax contributions today with the distribution of tax free growth in the future (rules apply). If you recall from my previous two blogs, I discussed the contribution limitations for individuals wishing to make direct Roth IRA contributions. With the Roth 401(k), the contribution amount is larger and there are no income limitations. Keep in mind, any employer match or contributions are pre-tax dollars and kept separate.
Steve Kohler is Managing Director of DBR Advisory Services at D. B. Root & Company, a Pittsburgh-based wealth management firm. If you would like to contact Steve please e-mail him at firstname.lastname@example.org or call 412-227-2800. Read bio…
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