What is a Roth 401k
Much like other retirement plans, the Roth 401k is simply a type of plan put in place to help a person save money for his/her retirement. This plan was authorized under the IRC section 402A by the US Congress. This plan includes a very unique mix of features of both the Roth IRA and the Traditional IRA. In 2006 US employers were given the option to change their 401k plan documentation to permit employees to choose Roth IRA tax benefits for a certain amount of their retirement plan contributions. In addition, Roth IRA contributions in relation to 403b plans were effected by the same law. This change was a direct result of the Tax Relief Reconciliation Act implanted in 2001.
The Advantages of the Roth 401k
The Roth 401k uses the most beneficial factors associated with both the Roth IRA, and the 401k. Workers can opt to contribute their funds in a post tax elective deferral basis, rather than, or in addition to, pre tax elective deferrals found in the traditional 401k plan. There is a deferral cap placed on these accounts that differ with each tax year and according to age. For example, a person over the age of 50 may be allowed a higher amount of tax free contributions. In addition, employers matching contributions are not included in the deferral cap.
The Difference Between a Roth 401k and a Traditional 401k
When it comes to a Roth 401k and a traditional 401k there is one essential difference; a traditional 401k uses dollars that have already been taxed and a Roth 401k uses dollars that have not. Basically what this means is that the contributions made to the traditional 401k will be taxed after funding, whereas the contributions to the Roth 401k will have already had taxes taken out prior to funding. In most cases the earnings made on Roth 401k contributions will remain tax free provided the distribution is made no less than five years after the initial Roth contribution and realization of age fifty nine and a half, unless of course exceptions apply.
Who Is the Best Candidate for a Roth 401k?
Young people, who are presently in a low tax bracket, but plan to be in a higher tax bracket at the time of retirement are perfect candidates for this sort of 401k. In addition, those who are currently working in a higher tax bracket may choose a Roth 401k in case the US income taxes should ever increase. The 401k does offer workers the advantage of distributions that are tax free, however it is controlled by the identical income limitations. For instance, typical Roth IRA contributions are capped at $5000 dollars, or if you are above the age of 50, $6000.00. However, with the Roth IRA 401k as much as $16,500.00 can be contributed as long as there are no other elective deferrals which have been withheld for the current tax year.
The Roth 401k retirement planning scheme seems to be catching on rather slowly and this seems to be because there is a lot of paper work and extra bookkeeping involved with the switch. With this being said, there are a lot of large corporations which have already begun offering this new 401k plan to employees and in the years to come it is estimated that many more companies will get on board.