Financial Planning
March 1, 2023
To Roth or Not?

Picking the Best Retirement Plan Option

By 2X Wealth Group
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Nothing in this world is certain except death and taxes. One of the important decisions that faces everyone who is saving for retirement is whether to pay taxes now or later.
The basic difference between traditional retirement accounts and Roth accounts is the tax treatment.
Traditional IRAs and 401ks* are funded with pretax dollars. Roth 401k plans and Roth IRA plans are funded with after tax dollars. Although both types of retirement accounts allow your retirement savings to grow tax free, qualified distributions from traditional retirement accounts are taxed at ordinary income rates. In contrast, qualified distributions from Roth retirement accounts are tax free (see table here).
There are two types of Roth retirement accounts - a Roth 401k and a Roth IRA.
Many can and do take advantage of company sponsored 401k plans, but they are often unaware that their companies offer Roth 401k plans.
The similarities between a Roth 401k plan and a Roth IRA:
  • Funded with after-tax contributions
  • Allow you to accumulate returns on your money tax-free
  • Distribute money tax free without penalty as long as you are 59-1/2 and have held the account for at least 5 years*
The differences:
  • Roth 401k plans have no income limit for contributions.
  • Roth 401k plans require withdrawals at 72 or when you retire, whichever comes later. There are no required withdrawals starting in 2024.
  • If your employer allows it, you can borrow against your Roth 401k, up to $50,000 or 50% of your vested account balance, whichever is less.
  • Roth IRAs have income limits for contributions and do not require withdrawals at any age.
  • Unlike Roth 401k plans, Roth IRAs allow penalty and tax-free withdrawals of your contributions after a 5-year holding period.
How do you decide between a Roth and traditional pre-tax IRA or 401k plan?
The government gets its money one way or another, either going in or coming out. The goal is to figure out when it is best to pay the taxes. If you are a high earner now and expect to pay lower taxes upon retirement, a traditional retirement plan may be best for you. If you are just getting started in your career and expect your income to grow over time, a Roth may be the preferred option. Many people opt to contribute to both types of accounts which offers flexibility in withdrawal strategies in retirement.
Is it possible to contribute to both a 401k plan and an IRA?
If you can afford to save more money for retirement, it is possible to contribute to both types of retirement accounts but watch out for income restrictions on contributions to a Roth IRA. If your income is too high, you could contribute to both a 401k plan and a traditional IRA. However, the tax deductibility of the IRA contribution is subject to income limits if you and/or your spouse work for a company with a retirement plan. The attached table is a useful guide.
If you have limited funds, what retirement account should you fund first?
Most companies offer matching contributions for their 401k plans, and the company match amount is always placed in the traditional (pretax) 401k. We recommend that you max out your company match before making other retirement investments – the match is basically free money.
Lesser-known contribution and withdrawal rules
  • Even in single earner couples, contributions can be made to both spouse’s IRAs (must meet income limits for Roths).
  • Hardship withdrawals without penalties exist for all types of retirement accounts. Hardships include buying a first house, paying for education expenses, paying for medical insurance after losing a job, etc. While penalties won’t apply, you will still owe ordinary income tax on traditional IRA or 401k accounts.
  • Rule of 55 – you can withdraw funds from your current job’s 401k or 403b with no 10% tax penalty if you leave that job in or after the year you turn 55.
Helpful Planning Strategies
When it comes to retirement and estate planning, Roth accounts are superior because they offer tax-free earnings and tax-free withdrawals for you and/or your heirs. Implementing the following Roth boosting strategies generally requires investment and tax advice.
The Back Door Roth IRA is a way of creating more Roth savings when you are above the income limit for contributing to a Roth IRA. This strategy is trickier when you have large traditional IRA accounts.
  • Make an after-tax contribution to a traditional IRA.
  • Roll the traditional IRA to a Roth IRA.
  • If there are any earnings on the contributions made to the traditional IRA, taxes on the earnings will be owed after the rollover – an incentive to roll over quickly!
  • If you also have a large traditional IRA, pro-rata taxes hurt this strategy, but there are workarounds.
After Tax 401K/Roth 401k Conversions (also called mega back door Roth)
  • If your company plan offers after-tax contributions in addition to the more typical traditional and Roth contributions, you have additional opportunities to create Roth savings.
  • This strategy creates Roth savings very quickly… as much as $43,500 per year.
  • If you company makes matching contributions, they will reduce the amount of after-tax contributions you can make.
Your retirement savings strategy should be based on your own employment, income, and other financial planning considerations. 2X Wealth Group provides specific retirement planning advice based on your unique circumstances. If you believe that you can take advantage of additional Roth savings and want advice as to what steps to take, send us an email.
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* We use the term 401k in this blog, but the concepts apply equally to 403b plans (provided by employers who are non-profit).

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