Differentiating Between Contributions in Roth IRA and After-Tax 401(k): What’s the Difference?

What is the difference between Roth IRA and after-tax 401(k)?

While both Roth IRA and after-tax 401(k) plans allow you to save for retirement using money that has already been taxed, there are some key differences.

IRS Rules for Roth IRA and after-tax 401(k)

The IRS rules for Roth IRA and after-tax 401(k) define the limitations and requirements regarding contributions, taxes, withdrawals, rollovers, and other account-related aspects.

Who can open the account?

Anyone can open a Roth IRA account, while the employer must offer an after-tax 401(k) plan. Typically, 401(k) plans are funded with money that has been previously taxed, but some employers may occasionally offer an after-tax 401(k) plan, which is also called a Roth 401(k) or designated Roth plan.

Contribution Limits

The contribution limits allowed for Roth IRA and after-tax 401(k) determine the maximum amount you can contribute annually. These limits can vary based on age, income, marital status, and other factors.

Tax Implications upon Withdrawal

You can withdraw contributions and earnings in a Roth IRA and after-tax 401(k) without paying taxes if those withdrawals are qualified and meet certain conditions. There are no required minimum distributions in Roth IRA, while after-tax 401(k) plans require mandatory withdrawals after age 72 unless you are still working or own 5% of the company.

Eligibility for Rollovers

After-tax contributions help alleviate the tax burden in retirement in another way. When you leave the company or retire, you will have the ability to roll over the tax-deferred growth into a traditional IRA and convert your after-tax 401(k) contributions into a Roth IRA.

Conclusion

In most cases, the investment options in after-tax retirement plans are the same as those in tax-deferred and designated Roth accounts. If your 401(k) plan offers after-tax contributions, it is advisable to consider this option if you are:

• High-income earner.
• Want to maintain emergency savings.
• Your income fluctuates.

Frequently Asked Questions

What is the Rule of 72 and how does it affect my retirement goals?

How does a 401(k) plan differ from an IRA?

Sources:

• IRS. “Roth Comparison Chart.”
• Internal Revenue Service. “Retirement Topics – Contributions.”
• IRS. “FAQs – Auto Enrollment – What Is an automatic contribution arrangement in a retirement plan?”
• IRS. “Amount of Roth IRA Contributions That You Can Make for 2022.”
• IRS. “Amount of Roth IRA Contributions That You Can Make For 2023.”
• IRS. “Early Withdrawals From Retirement Plans.”
• IRS. “Rollovers of After-Tax Contributions in Retirement Plans.”
• Save First Financial Wellness. “What Is the Rule of 72?”
• Congressional Research Service. “Individual Retirement Account (IRA) Ownership: Data and Policy Issues,” Page 3.

Source: https://www.thebalancemoney.com/after-tax-contributions-to-your-retirement-plan-4056252