Roth 401K vs Traditional 401K

A 401k plan is one of the best forms of retirement investment options around, but there are different types of these plans, including a traditional 401k and a roth 401k. So you need to understand the differences, benefits, and drawbacks of these two, so you can make the best choice for your retirement. Both a traditional 401k plan and a roth 401k plan can help you save for your retirement, it is the way that this is done that is different. A 401k plan is a plan that allows you to deduct your contribution from your salary, called a salary reduction plan, and the contribution is deducted from your pay by your employer and sent in. There is a limit to the amount you can contribute each year, and for 2008 that amount is fifteen thousand five hundred dollars. If you are aged fifty or older, you can also contribute an additional five thousand dollars as a catch up contribution.

The biggest difference between a Roth 401k and a traditional 401k is mainly the way your contributions are treated concerning taxes. The contributions made to a traditional 401k plan are considered before tax contributions, while any contributions to a roth 401k plan are considered after tax contributions. What this means is that if you contribute to a traditional 401k, this money is taken out of your check before taxes are calculated, and when you withdraw the money during retirement taxes will be owed on the withdrawals. In contrast, when you contribute to a roth 401k plan, the money is deducted from your pay after the taxes have been calculated, and withdrawals after retirement are not subject to any taxes, because they were paid when the money was deducted and contributed to the account.

If you want to contribute to a 401k plan, there are some things you should consider before deciding on either a traditional 401k plan or a roth 401k plan. Some experts state that because taxes are already paid on the roth 401k plan, this is the way to go, because taxes may be substantially higher in the future so you could end up paying higher taxes when the money is withdrawn than you would if you paid taxes right now. Other experts point out that you may be in a lower tax bracket after retirement, which could mean there would be less taxes owed due to the change in your tax bracket. Tax advantages and drawbacks are the main difference between the two types of 401k plans, but these can make a big difference in your retirement planning and income. This is the reason that you should determine which 401k plan is best for you and your needs.

Another difference between these two 401k plans concerns employer matching contributions. Your employer can not make a matching contribution to a roth 401k plan, only to a traditional 401k plan. This does not mean that you can not have matching funds if you have a roth 401k, only that you must have a traditional 401k plan as well, to receive any employer matching contributions, because of the tax differences in the incomes. Your employer does not pay taxes on the matching funds, so they can not go into a roth 401k plan.

All 401k plans offer automatic payroll deductions, and the total contributions this year can not be more than the limit of fifteen thousand five hundred dollars, unless you meet the age limit and can make catch up contributions, which can be no more than five thousand dollars right now. Even if you have both 401k plans, these limits cover contributions to all 401k plans combined.

The information supplied in this article is not to be considered as medical advice and is for educational purposes only.