Roth 401k Can Be Very Good For You

By Barbara Weltman August 4, 2005
Barbara Weltman On January 1, 2006, 401(k) plans can offer a Roth contribution option. You are not required to offer a Roth 401(k). But if you want to expand an existing retirement plan to include this option or adopt a new plan that includes it, now is the time to take action.

What a Roth 401(k) plan can do
A Roth 401(k) combines the best aspects of a Roth IRA and a 401(k) plan:

  • Like a Roth IRA, withdrawals from a Roth 401(k) after age 59-1/2 can be entirely tax free. And there are no mandatory lifetime distributions, so if you do not need the money for retirement income, you can let the funds continue to build up for your heirs.

  • Like a 401(k) plan, contributions are not limited to IRA amounts ($4,000 in 2006, or $5,000 if you age 50 or older by the end of 2006). In 2006, you can contribute up to $15,000 to a Roth 401(k) or $20,000 if you are age 50 or older by the end of 2006 – the annual limit for 401(k) contributions. You can divide 401(k) contributions between Roth and regular accounts as long as you do not exceed the annual limit ($15,000, or $20,000 in 2006).

    Who should use Roth 401(k)s?
    These plans are great for younger individuals who have a long time before retirement. There are many years in which to build up a sizable retirement nest egg that can be tapped tax free in the future.

    Roth 401(k) plans are also a good choice for higher-tax bracket individuals who are ineligible for a Roth IRA, which is not available to single persons with adjusted gross income (AGI) over $110,000, or married couples with AGI over $160,000. There are no AGI limits with a Roth 401(k), and it can be a good way to build up future tax-free income.

    Roth 401(k)s may also be useful if you believe that future tax rates will be higher than they are now. You do not get a tax deduction or income deferral for your contribution as you would with regular IRA contributions (which are tax deductible) and 401(k) contributions (which are made with pre-tax dollars). But your overall tax savings will be greater if future tax rates are higher when Roth 401(k) funds are withdrawn.

    Other issues
    Roth 401(k) funds must be held in separate accounts from regular 401(k) contributions. This entails more administrative work for you and may make it a little more complicated to handle investment decisions because of the need to coordinate investments in the two accounts.

    If you have employees in your 401(k) plan and adopt the Roth 401(k), you’ll need to educate your staff about this new retirement savings option.

    Copyright © 2005 by BWideas.com, Inc.

    Category: Human Resources, Healthcare, Benefits
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