Traditional or Roth IRA and 401(k)
Traditional and Roth IRAs or 401(k) retirement plans are available to almost all Americans. Traditional vs. Roth IRA or 401(k) is the first question that comes to mind about retirement and planning the future. Choosing one over another can be quite challenging though.
As a general rule with all retirement plans, traditional IRA or 401(k) is funded with pre-tax dillars. A Roth IRA or 401(k) is the opposite. The contributions made to a Roth retirement account is made with after-tax dollars. What these mean is that when you withdraw money, you will pay or not pay taxes.
This concludes the biggest difference between a Roth and traditional retirement account. The withdrawals made from a Roth IRA or 401(k) aren’t taxed. On the other hand, you will pay income tax on your withdrawals from a traditional retirement account. This will also be added to your taxable income if you continue work after being eligible to withdraw money.
Choosing the Right Retirement Account
To figure out which will be better, you must consider your current income and tax bracket. If you earn more in retirement, there is a high chance that you will move to a higher tax bracket, thus, pay more in taxes. You certainly should avoid this if that’s the outcome for you.
Most Americans earn less in retirement though. Given that you get a deduction for your contributions to a traditional IRA and 401(k), this should be a point to consider as well. On the other hand, contributions to a Roth IRA or 401(k) won’t grant you a deduction.
The bottom line is if you are planning on earning more in retirement, go with a Roth IRA or 401(k). If you are likely to earn the same or less than what you earn now when you retire, traditional is the way to go.
What you need to do to figure out which is best for you when comparing traditional and Roth IRAs and 401(k)s is figure out your income and anticipated income at the time of retirement. This should give you enough to pick either one.
If you’re unsure though, we suggest picking traditional IRA or 401(k). You can always convert your traditional retirement account to Roth by paying the taxes owed with your contributions. Read this article to see how to make conversion to Roth IRA from traditional IRA
