What is Roth 401 (K) and how is it different from the traditional 401 (k)?
One of the many complex aspects of pension planning is to select the smartest vehicles that you can save and expand your funds. Most people are familiar with the traditional 401 (K) accounts, usually offered through the employer.
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However, many people miss the Roth 401 (K) – if they even realize it is an opportunity. So what’s the difference and why can you choose against each other?
To investigate the differences, GobankingRates talked to Jamie Hopkins, CEO of Bryn Mawr Trust Advisors and Chief Property Officer of WSFS Bank. He is also a defender of the financial services industry, the Wall Street Journal best -selling authors and Finserv Founder, a non -profit organization to help college students use all their potential through training, mentoring and community.
Hopkins said that a little “misleading” to think about Roth and traditional 401 (K) plans as completely separate saving vehicles. They are essentially the same type of account-employment-supported pension plans-but the difference is how your contributions and withdrawals are taxed.
The traditional 401 (K) is a employer -sponsored pension savings plan that allows employees ‘salary deficiency and reconcile employers’ contributions. This means you put money in this type of account before You pay taxes for it, which reduces your taxable income in the year when you contribute. Then you pay taxes for money when you leave for retirement.
Roth 401 (K), on the contrary after-Tax dollars. Hopkins explained: “This means that taxes are paid until the money is contributed to your retirement account.”
The main advantage of the Roth 401 (K) is that money is increased tax -free rather than taxes. Pension withdrawals are also exempt if there are two conditions:
“Although there are other minor differences, the main difference between Roth account and traditional tax accounts is when you pay taxes,” Hopkins said.
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Hopkins said one of the best reasons to open the Roth 401 (K) is to pull off the road before retirement. This can reduce your taxable income by retirement and can also help prevent or reduce social security fees or reduce taxes and reduce Medicare contributions.
“If most of your income not for social security comes from the Roth account, you may be able to avoid taxing on social security benefits and remain at the lowest stages of Medicare Premium,” he explained.
On the other hand, traditional 401 (K) withdrawals postpone fees for the front and charge the tax burden as you retire – increasing the total taxable income at the time you would like it to be low. This may mean payment of higher Medicare contributions, partial taxation of social security benefits and reduced suitability for programs such as Medicaid.
If you are still unsure of whom to go, here are some of the exclusive advantages of Roth 401 (K), according to Hopkins:
Diversification of taxes: Having money distributed in taxable, non -taxable and tax -free accounts gives you more flexibility. Hopkins emphasized that diversifying taxes help you manage changing tax rates throughout your pension. “If tax laws or your personal situation change, you will need to control more how and when you will pay taxes,” he said.
No RMDS Roth IRA: Although the Roth 401 (K) S is a minimum distribution (RMD), starting at 73, you can avoid those who are put into Roth IRA before that age. “It gives you more control when you take off your funds and allows your money to continue to be taxed,” Hopkins said.
Higher saving power after tax: Based on taxes, Roth contributions can provide more net pension income. For example, if you pay $ 5,000 before taxing on traditional 401 (K) and your tax rate is 20%after taxes you will have $ 4,000. If you put $ 5,000 after taxes to Roth 401 (K), the total $ 5,000 can be removed.
However, to get $ 5,000, it would have required $ 6,2550 before taxing-so it is important to understand real compromises.
Weighing whether Roth 401 (K) is a suitable strategy for your retirement, Hopkins recommends asking:
“If you are expected to retire if you expect to be in a smaller tax group, you may have a more beneficial tax postponement of the traditional 401 (K),” Hopkins noted.
If you still don’t decide, don’t worry about choosing between two accounts. “At the end of the day, the most important thing is to save and invest consistently,” Hopkins said. “No perfect answer.” He often advises to divide contributions between both types of accounts to enjoy the advantage and flexibility of everyone.
This article is part of GobankingRates ” The 100 best money experts A series where we pay attention to the experts’ answers to the biggest financial questions that the Americans ask. You have your own question? You can win $ 500 just for asking – learn more on the website gobankingrates.com.
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