Roth 401(K) Vs. Traditional 401(K) And What Is The Best Option

With the advent of Roth 401(k) in the workplace, many individuals are wondering if they should contribute to Roth 401(k) or a traditional 401(k).

While focusing on tax strategies is a great idea, deciding on contribution to Roth 401(k) vs. a traditional 401(k) involves predicting your income levels and tax brackets in retirement.

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What Is A Traditional 401(k)

Traditional 401(k) accounts are funded with money on a pre-tax basis, meaning it comes out of your paycheck before you pay any taxes on it. Your adjusted gross income (A.G.I.) is lowered by the amount you contributed, which could put you in a lower tax bracket.

What Is A Roth 401(k)

In a Roth 401(k), you contribute money after paying your taxes. Contributions to the Roth 401(k) also do not reduce your adjusted gross income. However, the money in your Roth 401(k) grows tax-free, and you do not pay taxes on your contributions or the growth when withdrawn after age 59.5 and having the account open for a minimum of 5 years.

Example Of Roth 401(k) Vs. 401(k) If tax brackets and income at the time of contribution and withdrawal stay the same, investing in Roth 401(k) vs. traditional 401(k) yields identical results.

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Why 401(k) Is Better Than A Roth 401(k)

In an ideal world the difference between the 401(k) v/s a Roth 401(k) is just the timing of when you receive the tax break. With a 401(k), you receive it immediately while with a Roth 401(k) you receive the tax benefits later.

Lower Retirement Income Levels

Your income should be lower in retirement compared to when you are working. When you are working, you need money to fund your lifestyle and to save for retirement. Assuming a 30% Savings Rate, your income is 30% higher than your actual lifestyle spending needs.

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