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The Differences Between A 401(k) and A Roth IRA

Submitted by Leo McKittrick on Wed, 10/31/2012 - 10:35am

They are both great plans for helping you save money for retirement. Which one is better depends upon your situation and your preferences. I’ll present information about the two types of retirement accounts and let you decide which one is best for you.

You have the option to contribute money to both plans, if your goal is retirement savings.

401K Facts

  • Contributions are Pre-Tax

  • Annual Contribution Limit is $17,000 for 2012 for under 50 years old and $22,500 for 50 years old and older.

  • No Income Limits

  • Withdraw Contributions at 59 ½ years-old with no early withdrawal penalty.

  • Withdrawals will be taxed by the IRS and possibly your state.

  • Mandatory Withdrawals at 70 ½ years-old

  • Participation Tied to Employer and Employer’s Choice of Funds

Roth IRA Facts

  • Contributions are After-Tax

  • Annual Contribution Limit is $5,000 for under 50 years old and $6,000 for 50 years old and up.

  • Contributions Limited Based on Income (less than $169,000 for filing married joint and less than $107,000 for filing single or head of household for 2012)

  • Withdraw Contributions at Any Time Without Penalty

  • No Mandatory Withdrawals

  • Very Flexible

The Case for the 401K

First, most people with corporate jobs have access to contribute to one. A 401(k) will usually allow the individual to direct their contributions to the funds of their choice. The biggest advantage of the 401K is the tax deferral. Since the annual contribution limit is $17,000, you get to avoid paying taxes on that much in income every year. If you’re in the 25% tax bracket, that could mean >$4,000 in tax savings. High income earners (>$75,000) should be maxing out each year.


Your employer may match your contribution up to a certain point. That’s free money, and it’s like doubling your money (or 50%, depending on the rules of your particular company’s 401K).


You can’t take out that money before age 59 ½ except in certain circumstances, and you’ll incur a 10% penalty, plus any taxes. This could place you in a higher tax bracket, making you have to pay even more in taxes on your other income. If you want to see the exceptions to the early withdrawal penalty go to

Besides that, 401K plans aren’t the same across the board. The rules of your particular company’s 401K will be different from another’s company 401(k). This can make 401Ks very confusing. You will have fewer investment options with a 401K.

The Case for the Roth IRA

The biggest advantage in the Roth IRA is its flexibility. You can open a Roth IRA at a number of places (unlike the 401K), you can invest in just about any type of fund or asset, such as real estate. In addition, you can withdraw your contributions whenever you need them without penalty.

Roth IRA Profile

1. Contributions are not tax deductible

2 No Mandatory Distribution Age.

3. 2011 contribution limit is $5,000 for individuals under age 50 and $6,000 for those 50 years old or older as of the end of the year (December 31st).

4. All earnings and contributions are 100% tax free if rules and regulations are followed

5· Funds can be used to purchase a variety of investments (stocks, bonds, certificates of deposits, real estate, etc.)

6· In 2011 a Roth IRA is available only to single-filers making up to $107,000 or married couples making a combined maximum of $169,000 annually.

7. Principal contributions can be withdrawn AT any time without penalty (subject to some minimal conditions).

You Can Use Both!!

The great thing about comparing these two accounts is that you can legally participate in both. Just make sure you meet the income limitations of the Roth IRA. A common strategy that people use when deciding how to allocate retirement funds is this:

1. Invest in your 401K to get your company match.
2. Then, Invest in a Roth IRA to the max and then.
3. Come back to the 401K and finish maxing it out.

This is tax diversification in your retirement saving plans.

So what do you think of these two different retirement savings account?  Which do you have and why?