MMQH: The Roth 401k

Monday Morning Quick Hits:

If you are a participant in a company 401K plan, you may have the opportunity to invest into a Roth 401K vs. a traditional pre-tax 401K.  Most large corporations now offer this option, and many small to midsize companies are coming on board as well.

What is the difference between a Roth 401k and a traditional pre-tax 401k?  Other than the tax ramifications, nothing.  Here are a few basics:

  • The same annual contribution limits apply (For 2019, $19,000 if you are under the age of 50 and $25,000 if you are over 50)
  • The Roth 401k comes from salary deferral, just like any pre-tax 401k contributions would
  • Roth 401k contributions are not tax deductible.
  • The Roth 401k can rollover into a personal Roth IRA if a participant leaves the company or retires. Remember, Roth IRAs are after tax money, grow tax free, come out tax free, and inherit tax free if they are never used.  It’s a tax free world!
  • There are no income limits on Roth 401ks, so high wage earners still have the ability to contribute to a Roth.

Why would One Choose a Roth 401k contribution over a traditional, pre-tax 401k contribution?

  • If you are in a low tax bracket, the benefits of the tax deduction from the pre-tax 401k may not be as advantageous as the future tax free nature of the Roth 401k.
  • If you think that tax rates will be significantly higher in the future? If so, paying taxes now may benefit you.
    • We will save a more in-depth look at this topic for another time, but in general, our position is that tax rates probably will not be lower anytime in the near future, and have a better chance of rising than falling.
  • A 401K participant can also do a mix of both Roth and Pre-tax contributions. For some, this may be a good way to contribute to a Roth without losing all of the tax deductions of the pre-tax 401K contributions.

Whether it’s Roth 401k or pre-tax 401k contributions, saving money is always a good thing.  The Roth 401k, though, may be something to look-into if you haven’t before.  As always, please call us if there is anything we can do for you.

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