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Have You Thought about a Roth 401k?

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401KWhen it comes to making retirement account contributions, it makes sense to carefully consider your options, and weigh your choices.

In many cases, workers try to make a decision between a 401k and an IRA — or at least try to figure out which should be funded first. A 401k  has a higher contribution limit, but the IRA often has more flexibility, and many people also like the Roth option that comes with an IRA.

What is not more widely known, though, is that a Roth option has been available for the 401k for a few years. You can choose to invest in a Roth 401k, and if you already have a regular 401k, you can also roll over your contributions to a the Roth version.

What is the Roth 401k?

The Roth 401k was rolled out in 2006. The Roth 401k combines aspects of the 401k with a Roth account. The contributions you make are after-tax, meaning that you pay your taxes before contributing. You don’t receive a tax benefit now. Instead, your money grows tax-free; your tax benefit comes later when you withdraw without owing taxes.

The contribution limits are the same for a Roth 401k as for a Traditional 401k. On top of that, there are no income restrictions, so anyone can contribute to a Roth 401k. However, unlike the Roth IRA, once you contribute the money, it’s in the account permanently, and you need to wait until age 59.5 before you can take distributions. You can’t even withdraw your contributions early. Additionally, like the Traditional 401k (and the Traditional IRA), the Roth 401k has required minimum distributions at age 70.5.

Many employers still don’t offer a Roth 401k. If you want access to one, you will need talke to your human resources department.

What about Rollovers to a Roth 401k?

It’s possible for you to roll your Traditional 401k into a Roth version — if your employer allows for this move. In order to take advantage of the rollover, there has to be an in-plan conversion offered by your employer. It’s also important to note two very important things:

  1. You have to pay taxes: Since the money you are rolling over hasn’t been taxed yet, you have to pay taxes on the amount you convert. You need to make sure you can handle the tax bill when you roll over the amount. You can choose to roll over your account a little at a time over a period of years, to make the taxes more manageable.
  2. A Roth 401k rollover is irrevocable: When you roll your assets over to a Roth IRA, you can “re-characterize” the move, essentially taking it back. This can help if your account value falls in value and you want to recapture some of the taxes you paid. With the Roth 401k rollover, though, you can’t take it back. The change is permanent.

Before you decide to do a rollover to a Roth 401k, make sure it makes sense in your situation. Consider the tax consequences now, and compare them with what you will really save later.

(Photo: La’J)

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9 Responses to “Have You Thought about a Roth 401k?”

  1. Chris K says:

    “You can’t even withdraw your contributions early.”

    Not true. It’s after tax money so you can withdraw at any time with not tax or penalty.

    • JoeTaxpayer says:

      Chris – Withdrawals from a 401(k) of either flavor are restricted to a short list of events. It’s not impossible, but certainly not “at any time.” A hardship withdrawal would likely stop your future contributions for 6-12 months.
      The rules are not the same as with a Roth IRA.

  2. admiral58 says:

    I use a Roth 401k for my contributions. I’d rather pay tax now vs. later.

  3. Mario says:

    I did some research into my company’s 401k options, but ultimately, decided to just stick with a standard Roth IRA.

    It was really a matter of trust. My company (or at least the local branch) is notorious for employee mistreatment and being incredibly inefficient, e.g. it took some five months from the time I asked for an information brochure on the 401k before I finally received it.

    In addition, I’ve heard of some 401ks having issues with high fees and poor management (in some worse cases, outright embezzlement). From the information brochure, I know for a fact that high fees are in my company’s 401k too, but I highly suspect that I would encounter poor management and other less savory issues too.

    To get to the point (and to repeat myself), I rather stick with a standard Roth IRA.

  4. Christian L. says:

    Miranda,
    I’m loving my Roth 401(k). It makes sense for me as I’m positive I’ll be in a higher tax bracket when I retire. Also, my employer has made it known that employees have the Roth or traditional 401(k) option.

    -Christian L. @ Smart Military Money

  5. Chad says:

    A ROTH is a good way to save for college if you start early. Saving for one, then others come along, you do not have to worry about having a account for each. The principle is always open to withdrawal after 5 years anyway, so funding every year will allow you to put funds to whoever needs it. (I am finding out that not all tax preparars are up on this, so if using this watch that any distrubutions do not get reported as income!)

  6. My husband’s company was advised to have 3 types of retirement plans for his employees: cash balance, profit sharing, and Roth 401K.

    Because of the downturn in the economy in the last few years and losses rather than profits, the income offsetting advantages of these plans withered away and the admin costs of maintaining those plans were in the thousands(!) so we closed out 2 of those plans, the Roth 401K being one of them.

    What is the best way to open a Roth 401K plan – or do they all have super high fees with actuaries doing the figuring, etc? I am wondering if we were being overcharged.

    Mahalo in advance,

    Aunty

  7. I like using a traditional 401k to reduce to taxable income now and use a Roth IRA as a hedge against future tax rates. I think it’s a nice balance.


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