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Investing Retirement

Shake up your retirement savings: Contributing to a 401(k) and Roth IRA at the same time

  • 4-min read

The 401(k) is king when it comes to retirement savings. However, contributing to a Roth IRA, too, could give you the perfect 1-2 combo.

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TBS / Giphy

Saving for retirement often is a “set it and forget it” affair, but limiting yourself to one type of retirement account could be costing you flexibility and tax-advantaged savings. 

Why contributing to both Roth IRAs and traditional 401(k)s makes sense

Contributing to both a Roth IRA and a 401(k) is essentially a tax play. You probably know how a Roth IRA works: contributions are dollars that you’ve received, paid taxes on, and now can invest for long-term growth. When you turn 59 1/2, or have some other qualifying life event, you can withdraw your money tax-free. 

Roth IRAs have annual contribution limits in 2022 of $6,000 if you’re under age 50, or $7,000 if you’re older. However, the IRS restricts exactly who can contribute based on income. In general, you won’t be able to contribute at all if you make $144,000 or more as a single tax filer or $214,000 or more as a married couple.

Meanwhile, contributing to your 401(k) usually comes with a bonus: an employer match. That’s free money your employer adds to your retirement account alongside your own contributions. 401(k)s do not have income limits and they also allow a much higher contribution limit of $20,500 for the 2022 tax year. 

Between both accounts, you can contribute $6,000 plus $20,500 each year. One of the big benefits shows up in retirement, when you have the ability to pull income from two buckets of savings—one that’s taxable and one that isn’t. It doesn’t get much more flexible than that. 

When you should only contribute to a Roth 401(k)

At the risk of confusing my captive audience, many 401(k) plans also come in a Roth version, meaning you can contribute after-tax dollars. The caveat is that the total annual 401(k) contribution limit includes both traditional and Roth 401(k)s.

Look to this type of retirement account if you are earning well above the Roth IRA income limits and don’t want to frontload a retirement account that will be taxed later.

For instance, if your income as a single filer is just shy of $150,000 (hovering in the 24% tax bracket), consider putting your entire 401(k) contribution into the Roth option. That’ll likely set you up for a much larger bucket of tax-free savings to pull from in retirement. 

When you should only contribute to a traditional 401(k)

You should stick to only a traditional 401(k) if you’d benefit greatly from reducing your current income. How a 401(k) works tax-wise is by subtracting every dollar contributed off of your gross income for the year. This lowers your tax liability.

For example, if your income as a single tax filer is $110,000, a contribution of $20,000 to your  401(k) would drop your income to $90,000, one tax bracket below where you would have fallen without any pre-tax retirement plan contributions. 

Another reason to contribute only to your 401(k) would be if your employer gives a matching contribution. Failing to save enough on your end to score that match would be like leaving free money on the table. 

Frequently asked questions about Roth and traditional 401(k) plans

What are Roth 401(k) contribution limits?

The annual contribution limits to a 401(k) are $20,500 (plus a $6,500 catch-up if you’re over the age of 50). The critical thing to remember here is that $20,500 is the max you can contribute between your traditional 401(k) and your Roth 401(k) annually.

Which is better for early retirement planning? Both?

If you’re wondering which is better suited to accommodate an early retirement, consider both. Under 401(k) rules, you can leave your job at 55 and begin taking distributions from the 401(k) held at your last employer. 

As for Roth IRAs, you can withdraw contributions anytime, penalty free, after your account has been in existence for five years. You can withdraw your investment earnings without paying taxes once you turn 59 ½, with a few exceptions. 

Where should I invest after maxing out a Roth IRA and a 401(k)?

This section is for the overachievers in the group. If you’ve contributed to your 401(k) and a Roth IRA, where do you go next? You might consider a taxable investment account. This type of account will outperform any CDs or money market account, but you will owe taxes on capital gains. But depending on your retirement income strategy, you may be able to employ some strategies to offset those taxes.

Put your twist on the retirement cocktail

Every year is going to be different for you as life goes on, so expect some years to allocate more to a Roth IRA and others to your 401(k). Heck, there may be a year where you’re buying a house and having a baby, so you’ll be contributing only to get the 401(k) match. Just know that you aren’t limited only to what is offered through work. A Roth IRA and 401(k) combo is like having your tax-deferred cake and eating your tax-free growth too.