Roth 401(k) vs. Roth IRA: What’s the Difference?

It’s more than just the contribution limit

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Saving for retirement is an important piece of everyone’s financial plan. Many people use specialized retirement accounts to save because of the tax incentives that they provide.

Roth 401(k)s and Roth IRAs both let you contribute money after you’ve paid income taxes on it. In exchange for restricting withdrawals until you retire, you can withdraw the money, plus any earnings, tax-free. 

Roth 401(k)s and IRAs are alternatives to traditional 401(k)s and IRAs, which provide a tax deduction on contributions instead of allowing tax-free withdrawals.

The most significant differences are in who can open each account and how much you can contribute. 401(k)s are offered through employers while IRAs are available to almost everyone.

What’s the Difference Between a Roth 401(k) and a Roth IRA? 

While both Roth IRAs and Roth 401(k) plans allow for after-tax contributions, the retirement offerings have some big differences.

Roth 401(k) Roth IRA
Only available through employers Can open without your employer
No income limit Income limit
Contributions made with after tax dollars Contributions made with after tax dollars
Higher contribution limit Lower contribution limit
Employer matching No employer matching
Required minimum distributions No required minimum distributions
Investment options chosen by employer Choose your own investments

Eligibility

The most significant differences between a Roth 401(k) and a Roth IRA are the eligibility requirements to open one.

Like traditional 401(k)s, Roth 401(k)s are offered through employers. To open one you need to work for an employer that offers the plan as a benefit to their employees. Unless you have your own business or are self-employed, you can only open a 401(k) through an employer.

By contrast, anyone can open a Roth IRA, even if their employer doesn’t offer one.

There are also income restrictions on who can contribute to retirement accounts. 

Roth 401(k)s don’t limit contributions based on your income. You can contribute as much of your income from that employer as you want, up to the maximum contribution.

To contribute to a Roth IRA, you must stay below certain income limits. For 2022, single filers must have a Modified Adjusted Gross Income (MAGI) of $144,000 or less. Married filers must have a MAGI of $214,000 or less.

Contributions

Another major difference between Roth 401(k)s and Roth IRAs is the amount that you can contribute each year. 401(k)s (Traditional and Roth) have much larger contribution limits, letting you set aside more than three times as much for retirement.

In 2022, you may contribute up to $20,500 to a 401(k) (combined limit for Roth and pre-tax contributions) and only $6,000 to an IRA. If you’re 50 years old or older, you can contribute an additional $6,500 to your 401(k) or an additional $1,000 to your IRA.

401(k) contributions are made through payroll deductions, so you cannot contribute more to the account than you make from the employer offering the account. 

IRA contributions are similarly capped by your earned income if you make less than the typical annual limit.

In some cases, employers will make matching contributions to their employees’ 401(k)s and Roth 401(k)s. Typically, these contributions are made up to a certain percentage of the employee’s income. Because IRAs are not related to your employer, there are no matching contributions on IRAs.

For example, an employer might match 100% of an employee’s contributions, up to 5% of their income. If that person makes $50,000 per year and contributes $2,500 to their Roth 401(k), their employer will match that contribution, adding an additional $2,500.

These matching contributions help employees contribute even more to their Roth 401(k)s.

Required distributions

Some retirement accounts force you to start withdrawing money once you reach a certain age.

With a Roth 401(k), you must begin taking required minimum distributions (RMDs) by the time you turn age 72 unless you are still employed or own 5% of the business offering the 401(k).

Roth IRAs have no required minimum distributions so long as the account’s owner is alive.

Investment Options

With a Roth 401(k), your employer typically partners with a brokerage and offers a selection of investments that employees can choose from. This could include a list of stocks, bonds and mutual funds. Some employers will give employees more flexibility, but many are stuck with a small selection of funds.

With a Roth IRA, you have the flexibility to choose your broker and choose your own investments, as long as they are not prohibited to be held in a Roth account. Investing in collectibles via an IRA is generally not allowed or may result in additional taxes.

Which Is Right For Me?

One thing to keep in mind is that you can open both a 401(k) and an IRA. 

If you’re eligible for both, then it’s a good idea to take advantage of both Roth IRA and Roth 401(k), especially if your employer offers matching contributions.

Common advice is to contribute to your 401(k) to max out your employer’s match. After that, you can contribute to your IRA where you have more flexibility to choose what you invest in. If you max out your IRA and want to keep saving, you can then return to contributing to your 401(k).

Of course, if you’re only eligible for one of the two accounts due to income limits or not working for an employer that offers a 401(k), you should take full advantage of it.

Other Information

If your employer or brokerage offers a Roth 401(k) or IRA option, odds are good that they also offer traditional retirement accounts.

Traditional accounts let you deduct money from your income when you contribute and pay taxes on withdrawals. This is the opposite of Roth accounts, which are tax-free at withdrawal but make you pay taxes on contributions.

In general, Roth accounts are better for people in lower tax brackets who expect to be in a higher tax bracket in retirement. Traditional retirement accounts are best for those with higher income who expect to be in a lower tax bracket when it comes time to withdraw from their retirement account.

The Bottom Line

Roth 401(k)s and IRAs are both similar, giving you a way to save money for retirement while receiving some tax benefits. However, Roth 401(k)s have much higher contribution limits at the cost of only being available through employers.

If you have the option to use an IRA or 401(k) to save for retirement, it’s well worth doing. The tax incentives can help you save even more for retirement.

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