When I meet with clients to discuss the best place for them to be saving for retirement, we always go through their options. One of the most important decisions anyone can make is the retirement account they should be saving into. We often discuss the differences between saving in a 401k vs. saving in a Roth IRA. The biggest difference between these two types of retirement accounts is how they are taxed.
A 401k allows you to avoid paying federal and state income taxes on your contributions. As your 401k continues to grow, you still avoid having to pay any taxes on your 401k. Once you start taking withdrawals, however, you have to start paying taxes on the funds you withdrawal. The tax rate you pay on your 401k is based on your income tax bracket at the time of your withdrawal.
A Roth IRA is almost the exact opposite of a 401k. When you make contributions to a Roth IRA, you get zero tax breaks on your money. However once your money is in your Roth IRA, as long as you follow the rules, you never have to pay taxes on those funds again.
One of the main factors in determining which one makes the most sense is to compare your current tax bracket with the tax bracket you project to be in during retirement. If your tax bracket will be lower in retirement, generally it makes more sense to save in something like a 401k. If your tax bracket will be the same or potentially higher, a Roth IRA might make more sense. This is a conversation you should have with your tax professional and your financial advisor.
This leads to one of my most commonly asked questions: How much does a Roth IRA pay? The answer is always the same. It depends on what you invest within the Roth IRA. Banks often advertise their CD rates for Roth IRAs making it appear that a Roth IRA is a type of CD. However, a Roth IRA is just a tax classification of your investments. It is NOT a specific type of investment. You can hold the following investments inside a Roth IRA: stocks, bonds, mutual funds, annuities, ETFs, real estate, and CDs. You should meet with a financial advisor to determine an appropriate investment strategy based upon your goals and risk tolerance.
When deciding if you should invest in your 401k or a Roth IRA, know that because you have flexibility in how your Roth IRA can be invested, rate of return should not be a factor when comparing it to your 401k. Your investment mix can mirror your 401k if you so choose. The largest factor in your decision should be your current and future tax situation.
If you have questions on whether you should be saving in your company retirement plan or in a Roth IRA, please don’t hesitate to contact me
The information on this site is provided “AS IS” and without warranties of any kind either express or implied. To the fullest extent permissible pursuant to applicable laws, Recker Financial LLC (referred to as "Recker Financial") disclaims all warranties, express or implied, including, but not limited to, implied warranties of merchantability, non-infringement and suitability for a particular purpose. Recker Financial does not warrant that the information will be free from error. None of the information provided on this website is intended as investment, tax, accounting or legal advice, as an offer or solicitation of an offer to buy or sell, or as an endorsement of any company, security, fund, or other securities or non-securities offering. The information should not be relied upon for purposes of transacting securities or other investments. Your use of the information is at your sole risk. Under no circumstances shall Recker Financial be liable for any direct, indirect, special or consequential damages that result from the use of, or the inability to use, the materials in this site, even if Recker Financial or a Recker Financial authorized representative has been advised of the possibility of such damages. In no event shall Recker Financial LLC have any liability to you for damages, losses and causes of action for accessing this site. Information on this website should not be considered a solicitation to buy, an offer to sell, or a recommendation of any security in any jurisdiction where such offer, solicitation, or recommendation would be unlawful or unauthorized.
Recker Financial LLC (“Recker Financial”) is a registered investment adviser offering advisory services in the State(s) of Michigan and in other jurisdictions where exempted. Registration does not imply a certain level of skill or training. The presence of this website on the Internet shall not be directly or indirectly interpreted as a solicitation of investment advisory services to persons of another jurisdiction unless otherwise permitted by statute. Follow-up or individualized responses to consumers in a particular state by Recker Financial in the rendering of personalized investment advice for compensation shall not be made without our first complying with jurisdiction requirements or pursuant an applicable state exemption.
All written content on this site is for information purposes only. Opinions expressed herein are solely those of Recker Financial, unless otherwise specifically cited. Material presented is believed to be from reliable sources and no representations are made by our firm as to another parties’ informational accuracy or completeness. All information or ideas provided should be discussed in detail with an advisor, accountant or legal counsel prior to implementation.