It’s not always true, but in many ways, you can save far more by contributing to a Roth 401(k) rather than to a traditional Roth IRA. They’re similar in many ways, but the differences may give you the edge you want.
“A Roth 401(k) is better than a Roth IRA because an individual can contribute more to a Roth 401(k) than a Roth IRA,” says Marcia S. Wagner, President/Founder of The Wagner Law Group in Boston.
This is perhaps the most apparent advantage a Roth 401(k) offers you. Contribution limits are determined by the specific classification of the savings vehicle (in this case, a 401(k) plan versus an IRA). Any leg up typically experienced through a 401(k) over an IRA applies here. And it’s not just your contributions.
“The Roth 401(k) offers higher annual contribution limits than the Roth IRA ($20,500 with an additional $6,500 over age 50 versus $6,000 with an additional $1,000 over age 50),” says Glen Goland, Senior Wealth Strategist/Senior Investment Advisor at Arnerich Massena in Portland, Oregon. “In addition, the Roth 401(k) offers the chance to have an employer match a portion of the contributions made by the employee if the employer offers a match. Note: when a company matches an employee’s Roth 401(k) contribution, the company does so by placing the match in a traditional pre-tax 401(k) account, not the Roth account.”
The bottom line is you have “the ability to save a tremendous amount more in a 401(k) over a regular Roth IRA,” says Derek Amey, Partner and Advisor at StrategicPoint Investment Advisors in Providence.
Not only can you save more, but it’s easier for you to save.
“The Roth 401(k) comes right out of your paycheck,” says Herman (Tommy) Thompson, Jr., a Financial Planner with Innovative Financial Group in Atlanta. “It’s harder to spend money that never makes it into your checking account.”
The attraction of the Roth 401(k) goes beyond contribution limits. The IRS imposes qualification eligibility on Roth IRAs that doesn’t exist in the Roth 401(k) environment.
“In a Roth IRA, you have limits on being qualified to use it due to income restrictions which aren’t present in a 401(k) setting,” says Jason Grantz, Managing Director, Institutional Retirement Consulting at Integrated Pension Services in Highland Park, New Jersey.
Oddly enough, these eligibility requirements make it possible to use both vehicles, within limits, of course.
“Taxpayers can contribute the maximum to both a Roth IRA and Roth 401(k) in the same tax year as long as they have the same amount or greater of earned income,” says Kenneth Dean, Senior Director of Financial Planning at Winthrop Wealth in Boston. “However, there are income limitations to be able to contribute to the Roth IRA that do not apply to the 401(k). For example, a Roth contribution can’t be made for a single taxpayer with Adjusted Gross Income (AGI) greater than $144,000 or $214,000 when married filing a joint tax return.”
In a practical sense, this income restriction may not matter to many of those it applies to.
“While the Roth 401(k) doesn’t have the income limits that the Roth IRA has,” says Thompson, “this tends to be a smaller advantage since higher income households often prefer current year deductions over tax-free growth.”
Even without the allure of saving more, the Roth 401(k) bests the Roth IRA in terms of effortlessness that goes well beyond salary deferral.
“Another advantage of the Roth 401(k) is the ease of operation,” says Daniel G. Dolan, Principal at TFB Advisors, LLC in Overland Park, Kansas. “Since it is an employer-sponsored plan, all contributions are via payroll deduction and go directly into the participant’s account. A menu of investment options has also been pre-selected, so a participant can access these without an extensive amount of research.”
Speaking of investments, chances are the investment options offered in the 401(k), while they may be limited, might have lower expense ratios than their retail counterparts you normally would place in your IRA. There’s a good reason for this. You also get something maybe more valuable than a lower expense ratio.
“The costs for the 401(k) Roth should be less since the account will be part of a much larger pool of funds,” says R.L. “Dick” Billings, Senior Document and Compliance Specialist for PCS Retirement in Jefferson, South Dakota. “Also, the Plan’s Named Fiduciary is charged to oversee these cost issues and be responsible for them to be lower.”
Finally, and this is a bit tricky and not always available, sometimes you can have greater access to your funds in a Roth 401(k) than in a Roth IRA.
“You have the ability to take a loan from your Roth 401(k) account,” says Rita Mkrtchyan, Senior Attorney at Oak View Law Group in Burbank, California. “You can borrow up to 50% of your account balance or $50,000, whichever is smaller. However, if you fail to pay back the loan as per the terms of the agreement, that money could be considered a taxable distribution.”
Can you think of more advantages? Share your thoughts in the comment section below because you might just be helping someone get closer to their desired retirement.
As usual, there is another side to this story. You can read it here: “Why Is A Roth IRA Better Than A Roth 401(k)?”