Should you choose Roth or traditional 401(k) contributions? (2024)

FAQs

Should you choose Roth or traditional 401(k) contributions? ›

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.

If you'd prefer to pay taxes now and get them out of the way, or you think your tax rate will be higher in retirement than it is now, consider a Roth 401(k). By paying taxes on that money now, you're shielding yourself from a potential increase in tax rates by the time retirement rolls around.

In general, if you think you'll be in a higher tax bracket when you retire, a Roth IRA may be the better choice. You'll pay taxes now, at a lower rate, and withdraw funds tax-free in retirement when you're in a higher tax bracket.

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.

Tax diversification: High-income earners often find themselves in higher tax brackets. A Roth 401(k) account gives you more flexibility in managing your tax liability during retirement. Having a Roth account also allows you to be strategic about the tax treatment of your investment choices.

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.

Should I Convert my 401(k) to a Roth IRA? Converting a 401(k) to a Roth IRA may make sense if you believe that you'll be in a higher tax bracket in the future, as withdrawals are tax-free. But you'll owe taxes in the year when the conversion takes place. You'll need to crunch the numbers to make a prudent decision.

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.

With a Roth 401(k) you'll make contributions with after-tax money, so you won't enjoy a tax break today. In exchange, any money that you withdraw in retirement will be tax-free. In a Roth 401(k), you'll enjoy not only tax-free growth of your investment gains but also tax-free withdrawals.

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 you split your 401k between Roth and traditional? ›

That said, there are many advantages to Roth 401(k) saving, and the option is gaining traction in the marketplace. Carbonaro advises most of her clients to split their savings between Roth and traditional accounts, advising that they “do half in regular and half in a Roth, because you're allowed to split.”

For tax year 2024, single and head-of-household filers with MAGIs of $146,000 to $161,000 can contribute only limited amounts. The income phaseout range for married couples filing jointly is $230,000 to $240,000. Taxpayers with incomes above those top numbers cannot contribute anything to a Roth IRA.

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.

Roth IRAs do not have required minimum distributions (RMDs), meaning you can continue to benefit from tax-free potential growth throughout retirement without having to take money out. RMDs in 401(k)s and traditional IRAs require distributions beginning at age 73.

The Bottom Line. The benefit of a Roth 401(k) and any Roth account is that earnings are not taxed. And because you already funded the account with after-tax dollars, you won't be taxed when you withdraw funds, as long as you follow the five-year rule.

Income limit for contributions: Roth IRAs have income limits that prevent most high earners from contributing, unless they meet certain exceptions. No possibility of employer match: Unlike a Roth 401(k), a Roth IRA is a personal account that doesn't leave the possibility of an employer match.