Roth 401Ks are becoming increasingly popular in the American workplace. My present employer offers the Roth 401K, and before signing up for one, I had a lot of questions about them. In this post, I’ll cover Roth 401K basics and do some comparisons between the Roth and a Traditional 401K.
What is a Roth 401K?
It’s essentially a combination of some aspects of a Traditional 401K and a Roth IRA. With a Roth 401K, you can contribute the same contribution amounts as a Traditional 401K, only it is is after-tax dollars (like a Roth IRA). Your contributions and your earnings grow tax-free and are not taxed upon distributions or withdrawal in retirement.
What is the Difference Between a Roth 401K Versus a Traditional 401K?
Roths 401Ks are post-tax, traditional 401Ks are pre-tax. Roth contributions are taxed now, Traditional contributions are taxed in retirement. It’s as simple as that. Check out my complete article on Roth vs Traditional 401Ks for more details.
What is the Roth 401K Maximum Contribution in 2023?
Much like with Traditional IRA and Roth IRAs, it is a combined contribution total. The Roth 401K and Traditional 401K share the same 401K contribution maximum – $22,500 for 2022 (+ a $7,500 “catch up contribution” for those over age 50).
Are Roth 401K Matching Funds Also Post Tax?
No! This was the biggest question I had when starting a Roth 401K. I thought to myself, “hmmm… if I contribute to the Roth vs. the Traditional, then my matching funds will be higher because they are in after tax dollars”. Nice try. Your employer’s matching Roth 401K contributions are in pre-tax dollars.
This means that a Traditional 401K will be opened for you by your employer, if you didn’t already have one – and pre-tax matching funds will be placed in it. An employer CANNOT contribute after-tax matching funds to your Roth 401K. Bummer, I know.
What is the Roth 401K Catchup Contribution in 2023?
Same as the Traditional 401K. You can contribute an extra $7,500 to your Roth 401K (for a total of $30,000) if age 50 or older.
Can a Roth 401K rollover into a Roth IRA?
Yes, much like a Traditional 401K rollover into a Traditional IRA (or Roth with taxes paid), you can roll over a Roth 401K to a Roth IRA. And you should probably do this whenever you leave an employer because Roth IRA options from discount brokers.
Can you Move Money from a Roth 401K to a Traditional 401K?
No. And you’d never want to. Post-tax funds are always worth more than pre-tax funds.
Roth 401K Contributions Withdrawal Rules
You can withdraw before retirement without tax and penalty if your account is at least 5 years old. There are some exceptions, including disability that would allow you to withdraw early without penalty. And there are some funny rules around earnings to contributions, so check with a CFP on this one if you are considering it.
Roth 401K Discussion
- Does your employer offer the Roth 401K?
- Have you signed up for one?
- If you have the option of a Roth 401K and a Traditional 401K, which are you contributing the most to?
Does the Roth 401k have the same rules as the Roth IRA when it comes to withdrawing without penalty for buying a first home?
Our employer just added a Roth 401k option in April, 2010. We jumped on that immediately, switching our contributions from the conventional 401k. While I think the Roth is a much better way to save, converting your current savings from a conventional to a Roth is not for everyone. You need to work the numbers to determine if the price you pay in a lump sum tax today is a better ROI than putting that lump sum into investments today.
holykemp: Are you aware that you must have a financial need or hardship in order to use any retirement money for a home purchase? I made that mistake years ago & had to pay a 10% penalty. And if you are experiencing a financial need/hardship, a home purchase is probably not what you want. Some reference info:
I contribute to both the roth and regular 401K with my employer. I contribute 8% to reg and 20% to roth.
I contribute to both, 6% in my regular and 19% in my roth.
My employer doesn’t offer a Roth 401k plan, so I contribute the minimum to get max employer match (6% to get 6%) and also fully fund a Roth IRA for $5000 a year. I figure this works okay since we can take withdrawals from both in a way to minimize our taxes in retirement.
Thanks for answering questions pertaining to investing in a Roth 401K. The part about rolling over to a Roth IRA is important info for those of us in the workforce. Good post.
M Denis: Traditional and Roth IRAs have a provision for first-time homebuyers to make penalty-free withdrawals from their accounts up to $10,000 to help with getting that first down payment together (the idea being that non-first time home buyers have equity in their current home as their down payment). It isn’t necessarily a bad financial decision at all, unlike buying a home when you fall under the “financial hardship” criteria, because there is no requirement other than if you dig into your earnings, you must have had your account for at least 5 years.
My husband’s employer started offering a Roth 401k last year and we are certainly taking advantage of it. I’m very excited to have this option. We are currently contributing 9% and the company match is coming back this year for an additional 2.5%. We are working toward contributing 15% of income for a total of 17.5% with matching funds.
Even though a Roth 401k is great, 401ks have much less flexible withdrawal rules than IRAs. For example, the first time home-buyer exemption only applies to IRA funds, not 401k funds. So if you want to avoid penalties for certain withdrawals, contribute just enough to the 401 k to get the company match, then contribute to an IRA up to the maximum, and then contribute any additional funds to the 401k again because they have a higher limit on contributions.
I actually like the withdrawal penalties because is discourages me from using my retirement funds for anything but retirement. I don’t want the option to use it. I also like the mutual fund options available in my plan and I like having to just manage one account. So I contribute everything I save for retirement into my husband’s Roth 401k.
I’m very excited about the new Small Business Act which allow for active conversions of traditional funds to Roth. As soon as my plan allow, I will convert and happily pay income tax on the amount today for tax free withdrawals in retirement.
Great website and interesting topic, thank you for publishing.
A few alternative ideas against the Roth 401k:
If you are a high wage earner living in a tax heavy state (NY, CA) it might not make sense contributing to a Roth 401k. For example, if you live in NYC and your next marginal dollar is being taxed at 33% federal + 10% local + state, why not take the tax deduction now? Especially if you plan on retiring in a much lower tax, lower cost of living location (such as FL).
One last point: When you retire and take distributions from your traditional 401k, the distributions are taxed at the bottom of the tiered tax system, working your way up. Therefore, its highly doubtful your overall tax rate will be anywhere close to your current marginal tax rate (for high wage earners).
At the end of the day, I contribute 15% + 3% employer match to traditional 401k while the wife (painfully) only goes 6% + 3% employer match.
If I max out my Roth 401K can I open a Roth IRA through zecco or tradeking and max that out to 5K?
Also you state that you can withdraw Roth 401K money after 5 years. I was under the impression that since it was in a 401k plan I couldn’t touch it till i was 59.5 years old. Its this true?
Yes, the two are totally separate.
Can you Max out a ROTH 401K and a regular ROTH in 2018?