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Roth IRA vs. 401(k): What's the Difference?

Roth IRA vs 401(k)
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updated: July 10, 2024

One way to increase your retirement savings is to use a tax-advantaged retirement account. These are accounts for which the government offers special provisions in an effort to encourage people to build a nest egg.

A Roth IRA makes sense for someone who doesn’t mind paying taxes now in order to avoid paying them on withdrawals later. Conversely, a traditional 401(k) makes sense for those who look for a tax deduction today and are prepared to pay taxes on distributions. It’s also an important choice if your employer offers matching contributions.

It’s possible to have both types of accounts to manage your tax situation in retirement. Let’s take a look at how each operates, so you have a better idea of what might work for you.

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Examining the differences between a Roth IRA and a 401(k)

First, it’s important to understand the differences between these two categories of tax-advantaged accounts. Here are the issues you need to consider.

Tax treatment

A traditional 401(k) offers a tax benefit today. You make contributions, and those contributions are then deducted from your taxable income in the year you make them, lowering your tax bill. In your account, your investments grow tax deferred, meaning that you’ll eventually have to pay taxes on the money you withdraw from your account.

With a Roth IRA you make contributions using after-tax dollars, so you don’t see a lower tax bill today. As with a 401(k), your investments grow tax free. But when you take distributions later on, you won’t pay taxes on your Roth IRA money. That means, unlike with a 401(k), all the earnings on your Roth come to you tax-free at retirement.

You may have a third choice. Some employers offer a designated Roth 401(k) option. This combines elements of both categories: As with an IRA, you contribute after-tax dollars and get no tax deduction in the year when you contribute. However, the amount you can contribute is the same as for a traditional 401(k). And that makes a big difference.

Contribution limits

Contribution limits for a 401(k) are much higher than Roth IRA contributions. In 2023 you can contribute up to $22,500 to a 401(k). Compare that with only $6,500 to a Roth IRA. For those 50 and older, it’s possible to make extra contributions of up to $7,500 to a 401(k) and $1,000 to a Roth IRA. In 2024, contribution limits go up to $23,000 for a 401(k) and $7,000 for a traditional or Roth IRA. The catch-up contributions for 50+ workers remain the same.

Additionally, there are income limitations on a Roth IRA. Once you reach a certain income threshold based on your filing status, you can no longer contribute directly to one. Instead, if you want to make contributions, you need to use a “backdoor” Roth, which involves contributing to a traditional IRA and rolling over the money. Be aware of tax consequences—and complicated tax rules, such as the pro rata rule—entailed in using this method.

Early withdrawal rules

It’s possible to withdraw money early from a traditional 401(k) for limited purposes or by using various rules (such as the rule of 55, which lets you take penalty-free distributions if you leave your job at age 55 or older). However, for the most part you’re likely to see a penalty if you take distributions prior to age 59½. You’ll also pay taxes on the amount you withdraw.

With a Roth IRA it’s possible to withdraw your contributions to it penalty free and tax free at any time. There is a penalty for withdrawing any investment earnings on those contributions prior to age 59½, though. Some exceptions exist for early withdrawals, even for earnings, but it’s important to check with a financial professional or tax professional to understand the consequences.

Required minimum distributions (RMDs)

Your 401(k) comes with required minimum distributions (RMDs) once you reach 72—73 if you reached 73 after Dec. 31, 2022. You’re required to take a certain amount from your account at that point based on the account size and your age. If you don’t take RMDs, you’re subject to penalties. With a traditional IRA, you owe taxes on your RMDs; with a designated Roth, you don’t (but you lose the tax-free growth you get within the account).

The Roth IRA has no RMD requirement in the owner’s lifetime, though heirs are subject to one.

401(k) vs. Roth IRA: Pros and Cons

Depending on your goals, one account might work better for you. A Roth IRA offers tax-free investment growth and no RMDs, but there are bigger limits on contributions, and you don’t get a tax benefit today. A traditional 401(k) offers the opportunity to put away more and get a tax benefit today, but you will owe taxes later when you withdraw and must take RMDs. A designated Roth 401(k) doesn’t provide tax benefits today, but all your withdrawals will be tax-free, including RMDs.

This chart can help you compare the features of traditional and designated Roth 401(k)s vs. a Roth IRA.

FeatureTraditional 401(k)Designated Roth 401(k)Roth IRA
Contribution limits
$22,500 in 2023, with a catch-up contribution of $7,500; $23,000 in 2024, with a catchup contribution of $7,500
$22,500 in 2023, with a catch-up contribution of $7,500; $23,000 in 2024, with a catchup contribution of $7,500
$6,500 in 2023, with a catch-up contribution of $1,000; $7,000 in 2023, with a catch-up contribution of $1,000
Income limits
None
None
In 2023 the phase-out starts at $138,000 for a single filer, $153,000 for a head of household, and $218,000 for joint filers; in 2024, the phase out starts at $146,000 for a single filer, $161,000 for a head of household,and $230,000 for joint filers.
Withdrawals
Early withdrawals come with penalties and taxes
No penalty for early withdrawals of contributions
No penalty for early withdrawals of contributions
Taxes
Tax deduction on contribution, pay taxes when taking distributions
Contributions with after-tax dollars, but there are no taxes on distributions
Contributions with after-tax dollars, but there are no taxes on distributions
RMDs
Yes
Yes, but tax-free
No (in account owner's lifetime)

When is a 401(k) a better retirement savings option?

A traditional 401(k) works well if you want a tax benefit today and plan to set aside more for the future. The higher contribution limit, plus the potential for an employer match, can help you build a nest egg faster. There are also no income limits on contributing to a 401(k) the way there are for a Roth IRA.

However, you also need to engage in tax planning for later. The hope is that you’ll have lower taxes during retirement, so your withdrawals won’t cost you more. And unlike with a Roth IRA, you will pay taxes both on your original contributions and on all the earnings they accrued while in your account.

A designated Roth 401(k) offers the higher contributions of a traditional 401(k) with the tax-free withdrawals of a Roth IRA and has no income limits. However, you don’t get a tax deduction when you make your contributions.

When is a Roth IRA a better retirement savings option?

If you want to diversify your tax situation in retirement, a Roth IRA can make sense. For those who are just starting out and don’t expect to pay much in taxes today, it can be a good vehicle. It’s possible to pay taxes on the money at a lower rate and then take advantage of tax-free growth.

And because you can withdraw your contributions (not earnings) at any time without penalty, a Roth may be a less daunting way to put aside money. It’s not the best choice because you lose future savings,, but in an emergency you have easy access to Roth contributions.

What’s more, without RMDs it’s possible to let the Roth IRA grow for as long as you wish. You can even leave it to someone in your will.

Other retirement investment options

You don’t have to rely on either type of 401(k) or a Roth IRA. There are other ways to invest for your future.

Traditional IRA

You can contribute to a traditional IRA if you don’t qualify for the Roth IRA. You receive a tax deduction for your contributions and they grow tax free while in the account. However, you have to pay taxes when you withdraw at retirement. Additionally, you’ll be subject to early withdrawal penalties on contributions.

Another version of the traditional IRA is the SEP IRA, which is aimed at business owners. If you’re self-employed, you can take advantage of a higher contribution limit with a SEP IRA. For example, you can contribute up to $66,000 in 2023 and up to $69,000 in 2024.

Health Savings Account (HSA)

If you qualify for a health savings account (HSA), you will be able to set aside money for current and future medical expenses. You can invest a portion of your account, which rolls over year to year. Contributions to an HSA are tax deductible, and the money is tax free when you withdraw it for qualified expenses. You might be able to use the HSA as a healthcare account in retirement. However, to be eligible to open this account, you must have a high-deductible health plan (HDHP), which may not meet your health insurance needs.

Taxable investment account

Don’t forget about a “regular” taxable investment account. You don’t have to worry about contribution limits or early withdrawals with one of these accounts. This can be a way to supplement your plans for early retirement. Just be aware of the capital gains taxes that come with investment earnings.

TIME Stamp: Consider a plan with a combination of accounts

There are several different accounts you can use to increase your wealth for retirement. There’s no one right answer, and it’s possible to use a combination of accounts to better manage your taxes later. Create a plan that includes different accounts designed to help you meet your goals. You can invest with confidence online while managing your accounts with tools such as Empower.

Empower

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Empower Financial Advisor

Fees
0.89% or less
Account minimum
$100,000
Assets under Management
$1.3 trillion
Accounts offered
Empower Personal Cash, budgeting tool, personalized retirement portfolios, wealth advisory

Frequently asked questions (FAQs}

At what age does a Roth IRA make sense?

While a Roth IRA can make sense at any age, some experts suggest it might be best for younger workers early in their careers. At this point taxes are generally lower, so it might make sense to contribute to a Roth IRA and take advantage of tax-free withdrawals later on. What’s more, younger workers are more likely to have lower earnings and qualify to contribute to a Roth IRA.

Can I take a loan from my Roth IRA?

Generally you can’t take loans from a Roth IRA. However, there are certain circumstances under which you can take early withdrawals without penalty, including that you can withdraw your contributions (not earnings) at any time. You can also temporarily remove money from your Roth IRA—then roll it over back into your account within 60 days—to avoid having it considered an early or a hardship withdrawal.

What is a typical company match for a 401(k)?

It’s not uncommon to see companies match 50 cents on the dollar, up to 6% of income. However, according to a Fidelity analysis from 2019, the average 401(k) match is around 4.7% of income.

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