Roth Ira Vs. 401(K): Unlocking Retirement Savings Potential

When deciding whether to invest in a Roth IRA or a 401(k), it's important to consider the tax implications and the employer's matching contribution. While a Roth IRA allows for tax-free growth and thousands of mutual funds to choose from, a 401(k) offers fewer investment choices and high fees that may limit contributions. However, a Roth 401(k) is a great option that is often overlooked by investors. Additionally, forgoing a Roth IRA means losing out on the employer's matching contribution, which is like leaving free money on the table. Therefore, the best-case scenario is to invest in both accounts if you are eligible.

Taxation: Roth IRA grows tax-free while 401k is pre-tax

Roth IRA grows tax-free while 401k is pre-tax. With a Roth IRA, you contribute after-tax dollars, meaning the money will grow tax-free inside the account and you won't pay a dime in taxes when you withdraw your money at retirement. Once you're ready to retire, most of the money in your Roth IRA will be growth. So, no taxes on that growth means hundreds of thousands of dollars stay in your pocket and out of Uncle Sam’s.

With a 401k, you contribute pre-tax dollars, meaning you get a tax deduction for the amount you contribute. If your 401k plan has high fees, you may want to limit your contributions. Be sure you're still getting your employer match, but you may not have a need to contribute beyond that.

If you prioritize a Roth IRA over saving in your company's 401k, you'll forego any matching contribution your employer makes. That's like leaving free money on the table. Employers are able to offer up to 25% of your compensation as a matching contribution.

The best way to invest in a 401k is to continuously buy shares of low-cost index funds offered by the plan. There's no need to overthink it, and in this case, there's usually no option to overthink it either.

If you're currently ignoring the Roth 401(k) option, you should consider making the switch from a Roth IRA to a Roth 401(k). That said, there is one drawback to investing in a 401(k) you should consider first: the fees.

Employer match: 401k allows employer match while Roth IRA does not

Employer match is a feature of the 401k plan that Roth IRA does not offer. Employers can offer up to 25% of your compensation as a matching contribution to your 401k plan. This is like leaving free money on the table if you invest in Roth IRA instead.

Until recently, the Roth 401k was not an option as employer contributions were pre-tax. The SECURE 2.0 Act changed this in December 2022, making it possible for employers to make matching contributions to employees' Roth 401(k)s. However, there is no methodology for the taxation set up yet.

If you change jobs and roll your Roth 401k over into a Roth IRA you already have, the employee match is 100% taxable. This is a major drawback of the Roth 401k plan.

Investment options: 401k has limited investment options while Roth IRA has thousands of mutual funds

When it comes to investment options, 401(k)s have limited options while Roth IRAs offer thousands of mutual funds. With a Roth IRA, you're not limited by some third-party administrator deciding which funds you can invest in—you literally have thousands of mutual funds to pick and choose from.

K)s are best invested in by continuously buying shares of low-cost index funds offered by the plan. There's no need to overthink it, and in this case, there's usually no option to overthink it either.

Roth IRAs are best invested in with after-tax dollars. This means that the money will grow tax-free inside the account and you won't pay a dime in taxes when you withdraw your money at retirement.

Roth 401(k)s are a great but often overlooked option for investors committed to using Roth accounts for their retirement savings.

Roth IRAs are best invested in over 401(k)s because you'll forgo any matching contribution your employer makes. Employers are able to offer up to 25% of your compensation as a matching contribution.

Fees: 401k may have high fees while Roth IRA does not

Fees are a crucial factor to consider when comparing 401(k) and Roth IRA investment options. While Roth IRAs generally have lower fees, 401(k) plans can come with high fees that may impact your overall investment returns.

K) plans often have associated fees for management, administration, and investment advisory services. These fees can vary depending on the specific plan and provider. If your 401(k) plan has high fees, it may be wise to limit your contributions to ensure that you are still maximizing your employer's matching contribution.

On the other hand, Roth IRAs typically have lower fees because you contribute with after-tax dollars, eliminating the need for tax-deductible contributions. This tax-free growth and tax-free withdrawals at retirement can result in significant savings over time.

When comparing fees, it's essential to consider the overall cost of each investment option and how it aligns with your financial goals and risk tolerance. Consulting with a financial advisor can provide personalized guidance to help you make an informed decision based on your unique circumstances.

Flexibility: 401k has fewer investment choices while Roth IRA allows more flexibility

K)s have fewer investment choices than Roth IRAs. 401(k)s are best invested in by continuously buying shares of low-cost index funds offered by the plan. There's no need to overthink it, and in this case, there's usually no option to overthink it either.

With a Roth IRA, you're not limited by some third-party administrator deciding which funds you can invest in—you literally have thousands of mutual funds to pick and choose from.

If you're currently ignoring the Roth 401(k) option, you should consider making the switch from a Roth IRA to a Roth 401(k). That said, there is one drawback to investing in a 401(k) you should consider first: the fees. If your 401(k) plan has high fees, you may want to limit your contributions. Be sure you're still getting your employer match, but you may not have a need to contribute beyond that.

Employers are able to offer up to 25% of your compensation as a matching contribution. If you prioritise a Roth IRA over saving in your company's 401(k), you'll forego any matching contribution your employer makes. That's like leaving free money on the table.

Frequently asked questions