Is a Roth 401(k) Right for You?


Is a Roth 401(k) Right for You?

Since it first became available in 2006, many employers have added the Roth 401(k) to their benefits packages as a retirement savings option. A Roth option, which is available for Individual Retirement Accounts (IRAs), as well as sponsoring 401(k) and 403(b) accounts, may be appropriate for some individuals, depending on their circumstances. So, is a Roth 401(k) right for you? Let’s take a closer look.

To Roth or Not to Roth

In order to decide whether the Roth 401(k) option has a place in your retirement plan, it is important to weigh the advantages and disadvantages of both types of 401(k)s. With a traditional 401(k), you make contributions on a pre-tax basis, which lowers your current taxable income, and earnings are tax-deferred. However, your retirement distributions will be subject to ordinary income tax. With a Roth 401(k), your contributions are not tax deductible, but earnings and distributions are tax free, provided you have held the account for at least five years and are at least 59½ years old. Is it better to pay taxes on your retirement funds now or later? The best choice for you depends on your current tax situation and your long-term financial goals.

It is important to keep in mind that the 401(k) annual deferral limits—$16,500 for taxpayers under the age of 50 and $22,000 for those over age 50 in 2010—apply to all 401(k) contributions, regardless of whether they are made on a pre-tax or after-tax basis. If you contribute to a Roth 401(k), you may have to reduce or discontinue your contributions to your employer’s conventional 401(k) plan to avoid exceeding these limits. However, you may contribute to both types of 401(k) plans.

Also, matching contributions made by employers must be invested in a traditional 401(k), not a Roth account. So, even if you make contributions exclusively to a Roth 401(k) account, you will still owe tax in retirement on withdrawals from funds contributed on a pre-tax basis by your employer.

What about the Roth IRA?

The Roth 401(k) is only available through an employer-sponsored plan, whereas the Roth IRA is available to all taxpayers (with income limitations). How do the two Roth options compare? First, you can save more money in a Roth 401(k) than in a Roth IRA. The 2010 annual contribution limits for IRAs of all kinds are set at $5,000 for taxpayers under the age of 50 and $6,000 for older workers. The Roth 401(k) is subject to the more generous elective salary deferral limits that apply to conventional 401(k)s—$16,500 or $22,000 for those over age 50 in 2010.

Furthermore, the Roth IRA is subject to adjusted gross income (AGI) limits; only those with AGIs below $120,000 for single filers and $177,000 for joint filers are eligible to contribute after-tax dollars to a Roth IRA in 2010. These income limits do not apply to Roth 401(k)s.

In addition, contributions to a Roth 401(k) can be made through payroll deductions, which puts retirement saving on autopilot. To participate, an employee who is currently contributing to a traditional 401(k) plan could, for example, opt to have his or her contributions diverted to a Roth version of the same plan. Unlike the Roth IRA, however, you will be required to begin taking distributions from a Roth 401(k) after the age of 70½.

If a Roth 401(k) makes sense for you, ask your company’s benefits administrator if the feature is available for your retirement plan. If it is not already in place, expressing interest in the Roth feature may increase the likelihood that your company will adopt the option.

Neither MetLife nor its representatives offer tax or legal advice. You should consult your own advisors with respect to such matters.

Pursuant to IRS Circular 230, MetLife is providing you with the following notification: The information contained in this article is not intended to ( and cannot) be used by anyone to avoid IRS penalties. This article supports the promotion and marketing of retirement plans. You should seek advice based on your particular circumstances from an independent tax advisor.

Copyright © 2011 Liberty Publishing, Inc. All Rights Reserved.

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This article appears courtesy of Karl Susman. Karl Susman is a representative of the New Engl and Life Insurance Company. He focuses on meeting the individual insurance and financial services needs of people on the West Coast. You can reach Karl at the office at (424) 785-4337. New Engl and Life Insurance Company, 501 Boylston Street, Boston, MA 02116