Contributing Concurrently to a 401k and a Roth IRA: A Possibility Explored
In the realm of retirement planning, the combination of a 401(k) and a Roth IRA can offer a unique advantage: tax diversification. This approach provides flexibility in managing tax liabilities during retirement and potentially increases retirement income security.
A traditional 401(k) typically involves pre-tax contributions, reducing your taxable income in the contribution year but leading to taxable withdrawals in retirement. On the other hand, a Roth IRA involves after-tax contributions, with qualified withdrawals in retirement, including earnings, being tax-free [1][3][4].
By having both accounts, you can balance taxable and tax-free income sources in retirement, allowing for more effective management of your tax bracket depending on your income needs and tax rates. You can take tax-deferred withdrawals from the 401(k), which will be taxed as ordinary income, and tax-free withdrawals from the Roth IRA, reducing your taxable income in years you withdraw from it [1][5].
If you roll over a traditional 401(k) into a Roth IRA (a Roth conversion), you must pay taxes on the converted amount in the year of conversion because the 401(k) was funded with pre-tax dollars, and the Roth IRA requires after-tax contributions. Spreading conversions over years can help manage this impact [2].
Other key points to consider:
- Roth IRAs have no required minimum distributions (RMDs), so your money can keep growing tax-free longer. Traditional 401(k) accounts generally require RMDs starting at age 72 or 73, which means withdrawals become mandatory and taxable even if you don’t need the funds [1][4].
- Early withdrawals from either account may incur penalties and taxes unless exceptions apply, but Roth IRA contributions (not earnings) can typically be withdrawn anytime tax- and penalty-free [1][4].
For individuals over 50, the maximum annual contribution limits increase. The limit for a 401(k) increases to $30,000, while the limit for a Roth IRA increases to $7,500 [6]. The IRS allows contributing to both a 401(k) and a Roth IRA simultaneously [7].
Determining the proper mix between pre-tax and post-tax retirement savings is best left to financial professionals. The article, originally written on August 25, 2023, was provided for publication by Biswajit Rakshit and discusses the financial foundations of a secure retirement.
The cover image for the article was from Pixabay, and it was shared on LinkedIn, X, and Facebook. The article provides information about contributing to both a 401(k) and a Roth IRA and discusses how these accounts can be used to supplement each other, even if not at the maximum contribution limit.
[1] https://www.irs.gov/retirement-plans/plan-sponsor/retirement-plans-faqs-regarding-several-retirement-topics [2] https://www.irs.gov/retirement-plans/plan-participant-employee/retirement-topics-roth-conversions [3] https://www.irs.gov/retirement-plans/plan-participant-employee/retirement-topics-roth-ira-distributions [4] https://www.irs.gov/retirement-plans/plan-participant-employee/retirement-topics-traditional-ira-distributions [5] https://www.irs.gov/retirement-plans/plan-participant-employee/retirement-topics-tax-on-early-distributions [6] https://www.irs.gov/retirement-plans/plan-participant-employee/retirement-topics-ira-contribution-limits [7] https://www.irs.gov/retirement-plans/plan-participant-employee/retirement-topics-multiple-employer-retirement-plans
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