I was recently asked about the differences between traditional 401k plans and Roth 401k plans. Then I realized that I didn’t have a solid answer. Truth be told, I had to do some research on the subject. I am not going to bore you with this article. This is going to be straight to the point. Do you want an easy answer? Well, the Roth 401k is a great option for just about everyone. Let’s go into details before making hasty decisions!
What is a Roth 401k anyway?
This is easy. It’s like a typical 401k, but with a few minor differences. A Roth 401k acts the same way in terms of your boss managing your plan. Plus, just like a typical 401k, the money is taken out of your paycheck and put into the Roth 401k plan. Once in the Roth 401k, you control the investment options.
But what about the differences?
This is where it gets a bit tricky. The money that goes into a Roth 401k is $ after taxes. It is both a negative and a positive. It’s bad because your taxes are higher now. The good news is that you will never have to pay taxes on your distributions in retirement.
Another key difference is that you won’t have to pay taxes when you withdraw money after age 59½. Yes, you read that right. You pay zero taxes when you withdraw in retirement! Sounds good to me. However, there is a big GOAL. Unfortunately, you cannot withdraw your Roth 401k contributions. I mean you can, but you would face severe tax penalties.
Now for the DISCUSSION! Tax, tax, tax. This debate boils down to prepayment of taxes. With a Roth 401k, you pay taxes up front now to avoid paying taxes later. With a 401k, you avoid taxes now and pay taxes later. The goal is to lower the tax burden on your retirement accounts. We could go on and on about the tax benefits and downfalls of a Roth 401k. I’ll let the financial buff explain the tax side of the debate, as he is much more knowledgeable on this subject. You make a great case for NOT contributing to a Roth 401k, but I disagree with your view of future taxes. With the way taxes are going up now, the economy at a standstill, and the dollar falling, I foresee extremely high taxes 30 years or more from now.
So how much can you contribute to your sweet Roth 401k? This is the best part. Unlike a traditional Roth-Ira, you can contribute a maximum of $16,500. But what if I win more than $100k? Man I wish I had done that much haha. Well, the good news for the rich is that there are no income limits for a Roth 401k. You could be a billionaire and still contribute. But then again, you probably don’t need to worry about retirement accounts anyway…
Another key benefit is the rollover option. Let me give you an example. Let’s say, a guy named Joe is working at ABC Corporation and is actively contributing to his employer’s Roth 401k plan. On Monday, he finds a pink note on his desk and now he’s fired. What happens to his Roth 401k contributions? The good news is that Joe can roll over his contributions to an individual Roth-Ira and maintain tax-free growth. This is king in an economy where you never know if his job is safe.
Hmm, tax-wise, remember how President Obama spent trillions of dollars out of nothing? There will be repercussions for out-of-control spending. Guess who will pay it? You and me, that’s who. So protect your assets and your future retirement by contributing to a Roth 401k today. Remember to keep a well diversified portfolio and invest for the long term. Do it!