Can You Have Both a 401(k) and Roth IRA?

Learn whether you can contribute to both a 401(k) and Roth IRA each year

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One of the most common questions among overachieving retirement savers is whether they can have and contribute to both a 401(k) and a Roth IRA each year. The good news: Having either a 401(k) or Roth IRA in and of itself does not preclude you from having the other account.

Rather, your eligibility for both of these retirement accounts is dictated by the participation limits and restrictions imposed on them. However, many people are able to participate in both.

401(k) Eligibility

A 401(k) plan is a qualified retirement plan set up by an employer that lets employees who are eligible for the plan contribute a percentage of their wages into an individual account established under the plan. With a traditional 401(k), you make pre-tax contributions (from dollars you haven't paid tax on) through deductions from your paycheck.

In general, any employee who is at least 21 years old and has one year of service can contribute to a 401(k). Unlike some other retirement plans, there is no income limit for 401(k) plan participation. Therefore, you could make $500,000 and still be eligible to contribute to your 401(k) plan.

401(k) Contribution Limits

There are, however, limits on the amount you can contribute each year. The maximum contribution amount allowed each year is affected by your age and varies year-to-year based upon any increase in the cost-of-living index (which reflects the inflation rate).

In 2021, as in 2020, $19,500 is the maximum you can contribute to your 401(k) plan in pre-tax contributions and designated Roth 401(k) contributions if you are under the age of 50. You can contribute up to $26,000 with the $6,500 catch-up contribution that is permitted if you are 50 or over.

This contribution limit doesn't factor in any contributions your employer might make on your behalf, such as matching contributions. The total annual contribution limit including employee and employer contributions to plans maintained by a single employer is $58,000 ($64,500 including catch-up contributions) in 2021, up from $57,000 in 2020 ($63,500 if 50 or older).

Designated Roth 401(k) contributions are distinct from Roth IRA contributions. You make designated Roth contributions into a separate Roth account of your 401(k) plan, and they count toward the 401(k) contribution limit.

Roth IRA Eligibility

Roth IRA plans are retirement plans that you contribute to with after-tax dollars from your compensation. These plans are available privately, not through employers, so you have to open up an account on your own with a banking or financial institution.

Unlike a 401(k), your eligibility to contribute and your contribution limits are determined first by earning status and then by your adjusted gross income and your age. The basic eligibility requirement to have a Roth IRA is that you or your spouse must have taxable compensation. This simply means that you must have been paid a wage or have some type of income from employment.

Roth IRA Contribution Limits

To contribute to a Roth IRA, your modified adjusted gross income cannot exceed certain levels that are dependent upon your tax filing status. If you earn less than $125,000 as a single filer or less than $198,000 as a couple filing jointly, you are eligible for the full contribution limit in 2021. You can contribute up to $6,000 in 2021 if you're under 50, or $7,000 if you're 50 or over, assuming you earned at least that much income. Individuals who meet these income criteria can legally have and contribute to both a 401(k) and a Roth IRA.

In 2021, individuals qualify only for a reduced contribution to a Roth IRA at $125,000, and the opportunity to contribute to a Roth IRA ends at $140,000. Married couples filing jointly can make a reduced contribution at $198,000, and the ability to have a Roth IRA disappears once a couple's income reaches $208,000. Individuals who make more than the phase-out limits can't have both a 401(k) and a Roth IRA—only a 401(k).

The amount you contribute to a Roth IRA can't exceed the taxable compensation you receive for the year.

Pros of Having a 401(k) and a Roth IRA

If you qualify for both of these accounts, it makes sense to contribute to both if you can afford it and want to make total annual contributions that exceed the individual 401(k) and Roth IRA contribution limits. Both accounts offer unique financial incentives that when combined, allow you to make the most of your retirement savings.

As 401(k) plans are tax-deferred accounts that you pay into with pre-tax dollars, you can deduct the contribution from your taxable income and, in effect, lower your tax liability in the present. However, both the contribution and the earnings (growth) on those contributions are subject to taxes upon withdrawal. Moreover, if you withdraw before age 59.5, the withdrawal will be subject to an early withdrawal penalty of 10% of the withdrawal.

In contrast, with Roth IRAs, you do not have to pay any taxes on either the contributions or the earnings at withdrawal as long as you've had an account open for five years and wait until age 59.5 to take out the earnings. Your original Roth IRA contributions (but not the earnings) can also be withdrawn tax-free any time before you reach retirement.

That makes the Roth IRA a way to save for other goals, such as buying a house or paying for graduate school or a child's college education. Some people even use Roth IRAs as emergency savings accounts.

Another important benefit is that with a Roth IRA, there are no distributions required until after the owner's death; 401(k) investors must start taking distributions from those accounts beginning at age 70.5. If you turn 70.5 on or after Jan. 1, 2020, you don't have to start taking RMDs until age 72.

If you have a 401(k) and a Roth IRA, invest at least the minimum amount in your 401(k) needed to qualify for your employer's matching program, if one is offered.

Alternative to a 401(k) and a Roth IRA

If your income is too high for a Roth IRA, and so you can't have a 401(k) and a Roth IRA, consider investing in a traditional IRA to supplement your 401(k) contributions.

Although you must still have taxable compensation to be eligible for a traditional IRA, there is no income limit for participation, so you could have a 401(k) and a traditional IRA even as a high earner. Moreover, these accounts operate like 401(k) accounts in that your contribution is either fully or partially deductible in the present; you pay taxes on the contributions and earnings upon withdrawal.

In 2021, you qualify for a full deduction up to your IRA contribution limit if you don't also participate in a 401(k) or another retirement plan at work or if you do have a 401(k) but your modified AGI is less than $66,000 as a single filer or $105,000 or less as a married couple filing jointly where the spouse contributing to the IRA also has a work-related 401(k).

You qualify for a reduced deduction if your income is $66,000 or above or $105,000 or above for a single or couple with a spouse enrolled in a 401(k) at work, respectively.

You don't qualify for any deduction if you earn $76,000 or more as a single filer or $125,000 or more as a couple with a spouse enrolled in a 401(k) at work.

The Bottom Line

People who earn average incomes will generally find that they can have and contribute to both a 401(k) and a Roth IRA. As long as you meet the separate eligibility criteria for both a 401(k) and a Roth IRA, you can contribute to both accounts.

No restriction exists whereby your participation in one of the two retirement plans prevents you from saving in the other. Even if you can't have a 401(k) and a Roth IRA because of your income, you can use a traditional IRA with your 401(k). So go ahead—maximize those retirement savings.

Article Sources

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