You’ve probably heard the term “Roth” associated with your 401(k) Plan. Most plans now offer two types of participant contributions. There are deferral contributions made on a pre-tax basis referred to as pre-tax contributions. Then there are deferrals made on an after-tax basis and referred to as Roth contributions. Many people are unsure whether they should contribute to their 401(k) plan on a pre-tax or Roth basis.Learn more about making contributions on a pre-tax or Roth basis: https://youtu.be/6zSPPLw6AEs
Roth contributions to a 401(k) plan are similar to a Roth IRA—both are contributed on an after-tax basis. However, your Roth contributions to your 401(k) plan are not subject to income limits.
Participating on a Roth basis in your 401(k) Plan means taxes are taken before the contribution is invested. Roth contributions and related earnings are not taxed when they are withdrawn as long as they have been invested for at least 5 years and you are over age 59.5 years old.
In contrast, when you contribute to your 401(k) on a pre-tax basis, you are doing so before federal or state taxes are applied, essentially reducing your taxable income for the year. The contributions and the related earnings are taxed when they are eventually withdrawn, ideally in retirement.
Now that you have an understanding of the basic differences between Roth and pre-tax contributions, you should ask yourself: When do you think you’ll be in a higher tax bracket, now or in retirement?
In Part 2 of this series, we will offer some things to consider when making this choice, since it can be difficult to predict what your tax obligations will be in the future.
If you have any questions about the benefits of participating in your plan on either a pre-tax or Roth basis, please feel free to visit us at HillsBank.com/WealthManagement or email me at Shelly_Freemole@HillsBank.com.
View the complete Roth Series:
- Wealth Management Spotlight: Roth or Pre-Tax, Part 1 of 2
- Wealth Management Spotlight: Roth or Pre-Tax, Part 2 of 2