Roth vs. Traditional 401(k) Contributions – How to Choose (2024)

The most expensive thing you’ll probably buy during your lifetime is retirement. Perhaps you’ve never thought of “buying” retirement, but that’s exactly what you do when you participate in a 401(k) plan – you’re saving now to buy retirement income later. When you consider that income may need to last 10, 20, even 30 years, it’s easy to understand why retirement is not cheap. However, by following a simple 3-step plan during your working years - save early and often, invest appropriately,minimize account fees - you can reduce the out-of-pocket cost of your retirement by a lot.

You may be able to reduce your retirement's cost even further by contributing Roth deferrals to your 401(k) account instead of traditional deferrals. While traditional deferrals are contributed pre-tax and then taxed at distribution, Roth deferrals are the opposite - contributed after-tax and then tax-free at distribution. Taking the tax hit on Roth deferrals now could save you a lot in taxes in the long-run.

Not all 401(k) plans permit Roth deferrals, but if your plan does, making an informed decision about the best deferral option for your 401(k) account can be well worth your time. Not sure how to choose? Below is a comparison and factors to consider.

Roth vs Traditional 401(k) – Side-by-Side Comparison

In general, Roth and traditional deferrals are subject to similar contribution and distribution rules. Their primary difference is when they’re taxed – Roth on the front-end (at contribution), traditional on the back-end (at distribution).

Traditional 401(k)

Roth 401(k)

Tax treatment at contribution

Contributions are made pre-tax, which reduces your current taxable income.

Contributions are made after taxes, with no effect on current taxable income.

Contribution limits

Subject to the same IRC section 402(g) annual limit - $23,000 ($30,500 if “catch-up” eligible) for 2024.

Tax treatment at distribution

Both contribution principal and earningsaresubject to Federal and most State income taxes when distributed.

Contribution principal is tax-free when distributed.

Earnings too if part of a “qualified distribution.” A qualified distribution is made at least five years after the first Roth deferrals are contributed and after:

  • Attainment of age 59½
  • Death or disability

Distribution restrictions

Same. Neither can be distributed until one of the following events occurs:

  • Termination of employment
  • Death or disability
  • Plan termination

However, a plan may permit their in-service distribution upon:

  • Age 59 ½
  • Hardship

Premature distribution penalty

Penalty applies to both contribution principal and earnings.

Penalty applies to taxable earnings only.

Rollovers

Can be rolled to any qualified plan or IRA.

Can only be rolled to:

  • another Roth 401(k) account
  • a Roth IRA

Required Minimum Distributions (RMDs)

Distributions must begin no later than age 72 (age 70 ½ if reached age 70 ½ before January 1, 2020), unless still working and not a 5% owner.

Roth vs. Traditional 401(k) Contributions – How to Choose (1)

Roth vs. Traditional 401(k) - How to Choose

To make an educated choice between traditional and Roth deferrals, you want to consider your current tax situation and your anticipated situation in retirement. In general, you want to choose traditional deferrals if you expect your tax rate to decrease in retirement and Roth deferrals if you expect it to increase.

Reasons to Choose Traditional 401(k)

Reasons to Choose Roth 401(k)

  • You expect to be in a lower tax bracket in retirement
  • You want maximum rollover flexibility.
  • You want to do an in-plan Roth rollover later.
  • You expect to be in a higher tax bracket in retirement.
  • You’re young and expect your income to grow throughout your career.
  • You want to minimize your Social Security taxes and/or Medicare B premiums in retirement.

Roth vs Traditional 401(k) - Tax Examples

Below are examples that demonstrate how taxes would affect the value of Roth and traditional deferrals over a 10-year period assuming a 5% annual rate of return.

Example 1 - Tax rates are the same

Roth 401(k)

Traditional 401(k)

Pre-tax income

$2,000.00

$2,000.00

Taxes (20%)

20.00%

0.00%

Contribution amount

$1,600.00

$2,000.00

Balance at retirement

$2,606.23

$3,257.79

Taxes (20%)

0.00%

20.00%

After-tax proceeds

$2,606.23

$2,606.23

Example 2 - Tax rate is lower in retirement

Roth 401(k)

Traditional 401(k)

Pre-tax income

$2,000.00

$2,000.00

Taxes (20%)

20.00%

0.00%

Contribution amount

$1,600.00

$2,000.00

Balance at retirement

$2,606.23

$3,257.79

Taxes (15%)

0.00%

15.00%

After-tax proceeds

$2,606.23

$2,769.12

Example 3 - Tax rate is higher in retirement

Roth 401(k)

Traditional 401(k)

Pre-tax income

$2,000.00

$2,000.00

Taxes (20%)

20.00%

0.00%

Contribution amount

$1,600.00

$2,000.00

Balance at retirement

$2,606.23

$3,257.79

Taxes (25%)

0.00%

25.00%

After-tax proceeds

$2,606.23

$2,443.34

Some tax planning now can pay off big-time later!

It can be tough to pass up a tax break by choosing Roth over traditional deferrals, but you need to think ahead when saving for retirement. Paying taxes now might help you save thousands – or even tens of thousands – in net taxes. That additional money that can come in handy in retirement.

That said, nobody has a crystal ball about their future earnings and tax rates. If the right choice for you is not clear, you can always split your deferrals between Roth and traditional.

Roth vs. Traditional 401(k) Contributions – How to Choose (2)

Roth vs. Traditional 401(k) Contributions – How to Choose (2024)

FAQs

Roth vs. Traditional 401(k) Contributions – How to Choose? ›

To make an educated choice between traditional and Roth deferrals, you want to consider your current tax situation and your anticipated situation in retirement. In general, you want to choose traditional deferrals if you expect your tax rate to decrease in retirement and Roth deferrals if you expect it to increase.

How do I decide between Roth and traditional 401k? ›

If you think your tax rate will be lower when you begin taking withdrawals in retirement, traditional contributions may make sense. If your tax rate will be about the same (or higher), Roth contributions might be preferable.

What percentage should I put in 401k or Roth IRA? ›

"Most financial planning studies suggest that the ideal contribution percentage to save for retirement is between 15% and 20% of gross income," he adds. "These contributions could be made into a 401(k) plan, 401(k) match received from an employer, IRA, Roth IRA, or taxable accounts.

How to decide between Roth and traditional IRA? ›

A general guideline is that if you think your tax bracket will be higher when you retire than it is today, you may want to consider a Roth IRA—especially if you're younger and have yet to reach your peak earning years.

Why would you choose a Roth rather than a traditional account? ›

With a Roth IRA, you contribute after-tax dollars, your money grows tax-free, and you can generally make tax- and penalty-free withdrawals after age 59½. With a Traditional IRA, you contribute pre- or after-tax dollars, your money grows tax-deferred, and withdrawals are taxed as current income after age 59½.

Should high earners contribute to Roth or traditional 401k? ›

Key Takeaways. Given the chance, should you contribute on a pretax basis to a traditional 401(k) or steer after-tax dollars into a Roth 401(k). In general, Roth dollars tend to be worth more because those assets can be withdrawn tax free, whereas the traditional 401(k) dollars have yet to account for taxes.

Should you prioritize 401k or Roth IRA? ›

The Bottom Line. In a 401(k) vs. Roth IRA matchup, a Roth IRA can be a better choice than a 401(k) retirement plan, as it typically offers more investment options and greater tax benefits. It may be especially useful if you think you'll be in a higher tax bracket later on.

What is the 5 year rule for Roth 401k? ›

Contributions and earnings in a Roth 401(k) can be withdrawn without paying taxes and penalties if you are at least 59½ and have had your account for at least five years. Withdrawals can be made without penalty if you become disabled.

Can I contribute full $6,000 to IRA if I have a 401k? ›

For 2024, you can contribute up to $23,000 to a 401(k) unless you're 50 or older, in which case you can contribute an additional $7,500, or $30,500 total. You can also contribute up to $7,000 to an IRA unless you're 50 or older—in that case, you can contribute an additional $1,000, or $8,000 total.

When should I switch from Roth to traditional? ›

To make an educated choice between traditional and Roth deferrals, you want to consider your current tax situation and your anticipated situation in retirement. In general, you want to choose traditional deferrals if you expect your tax rate to decrease in retirement and Roth deferrals if you expect it to increase.

At what age does a Roth IRA not make sense? ›

You're never too old to fund a Roth IRA. Opening a later-in-life Roth IRA means you don't have to worry about the early withdrawal penalty on earnings if you're 59½. No matter when you open a Roth IRA, you have to wait five years to withdraw the earnings tax-free.

Should I be more aggressive with Roth or traditional IRA? ›

The best funds to hold in your Roth IRA vs your other accounts are the most aggressive ones you'll hold in your portfolio because the growth on those will never be taxed. While you should consider holding more conservative assets like cash and CDs in your overall portfolio, they should not live in your Roth IRA.

Should I put my 401k into a traditional IRA or Roth IRA? ›

Tax rate during retirement: If you expect your tax rate to be lower during retirement, a traditional IRA is more suitable because taxation is deferred until retirement. If you expect to be in a higher tax bracket during retirement, then choose a Roth IRA.

When should I switch from a Roth 401k to a traditional 401k? ›

In general, you want to choose traditional deferrals if you expect your tax rate to decrease in retirement and Roth deferrals if you expect it to increase.

Is it smart to have both a 401k and Roth 401k? ›

Not only is having both a Roth IRA and a 401(k) allowed by the IRS, but having both could also help you build a bigger nest egg. Even if you earn too much for a Roth, you have other options to use these 2 powerful savings tools at the same time. Feed your brain. Fund your future.

Should I use Roth or traditional first? ›

There are several approaches you can take. A traditional approach is to withdraw first from taxable accounts, then tax-deferred accounts, and finally Roth accounts where withdrawals are tax free. The goal is to allow tax-deferred assets the opportunity to grow over more time.

Top Articles
Makna dan Arti Lagu 'Birds of a Feather' milik Billie Eilish - Sonora.id
Lirik Lagu 'BROTHER STONE' oleh Don Toliver Feat. Kodak Black - Sonora.id
Evil Dead Movies In Order & Timeline
Devin Mansen Obituary
Top 11 Best Bloxburg House Ideas in Roblox - NeuralGamer
Davante Adams Wikipedia
Sarah F. Tebbens | people.wright.edu
Southeast Iowa Buy Sell Trade
Draconic Treatise On Mining
Texas (TX) Powerball - Winning Numbers & Results
Tugboat Information
Craigslistdaytona
Baseball-Reference Com
LA Times Studios Partners With ABC News on Randall Emmett Doc Amid #Scandoval Controversy
104 Presidential Ct Lafayette La 70503
4Chan Louisville
Oscar Nominated Brings Winning Profile to the Kentucky Turf Cup
The Superhuman Guide to Twitter Advanced Search: 23 Hidden Ways to Use Advanced Search for Marketing and Sales
Youravon Comcom
Where to Find Scavs in Customs in Escape from Tarkov
Wausau Marketplace
Craigslist List Albuquerque: Your Ultimate Guide to Buying, Selling, and Finding Everything - First Republic Craigslist
Sef2 Lewis Structure
Celina Powell Lil Meech Video: A Controversial Encounter Shakes Social Media - Video Reddit Trend
eugene bicycles - craigslist
Piedmont Healthstream Sign In
Preggophili
Myra's Floral Princeton Wv
Bernie Platt, former Cherry Hill mayor and funeral home magnate, has died at 90
1987 Monte Carlo Ss For Sale Craigslist
24 slang words teens and Gen Zers are using in 2020, and what they really mean
Supermarkt Amsterdam - Openingstijden, Folder met alle Aanbiedingen
Hermann Memorial Urgent Care Near Me
Eastern New Mexico News Obituaries
Captain Billy's Whiz Bang, Vol 1, No. 11, August, 1920
America's Magazine of Wit, Humor and Filosophy
Check From Po Box 1111 Charlotte Nc 28201
Let's co-sleep on it: How I became the mom I swore I'd never be
Craigslist Pets Plattsburgh Ny
Callie Gullickson Eye Patches
Energy Management and Control System Expert (f/m/d) for Battery Storage Systems | StudySmarter - Talents
Thor Majestic 23A Floor Plan
Florida Lottery Claim Appointment
Citroen | Skąd pobrać program do lexia diagbox?
Tinfoil Unable To Start Software 2022
Chr Pop Pulse
Cara Corcione Obituary
Ronnie Mcnu*t Uncensored
Marine Forecast Sandy Hook To Manasquan Inlet
St Als Elm Clinic
Great Clips Virginia Center Commons
Worlds Hardest Game Tyrone
Die 10 wichtigsten Sehenswürdigkeiten in NYC, die Sie kennen sollten
Latest Posts
Article information

Author: Laurine Ryan

Last Updated:

Views: 6308

Rating: 4.7 / 5 (77 voted)

Reviews: 84% of readers found this page helpful

Author information

Name: Laurine Ryan

Birthday: 1994-12-23

Address: Suite 751 871 Lissette Throughway, West Kittie, NH 41603

Phone: +2366831109631

Job: Sales Producer

Hobby: Creative writing, Motor sports, Do it yourself, Skateboarding, Coffee roasting, Calligraphy, Stand-up comedy

Introduction: My name is Laurine Ryan, I am a adorable, fair, graceful, spotless, gorgeous, homely, cooperative person who loves writing and wants to share my knowledge and understanding with you.