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How to Balance Savings Between a 401k and a Roth IRA

Published November 14, 2014

Roth IRAs and 401(k)s are two of the most commonly used retirement savings accounts. For people with both a 401(k) and a Roth IRA, it is best to balance retirement savings between the two accounts in order to maximize employer contributions and tax benefits.

A Roth IRA provides considerable flexibility both before and after retirement. It is funded with after-tax dollars, so that it grows tax-free for the rest of the account holder’s life. There are no penalties or taxes for taking an early distribution of the amount contributed to the Roth IRA, providing peace of mind in case of an emergency later on.

A 401(k) is funded with pre-tax dollars and the account grows tax-deferred, so that taxes are paid when the distributions begin. Contributions to a 401(k) account receive an immediate tax deduction, but are subject to the uncertainty associated with future tax rates.

The most important consideration when balancing savings between a 401(k) and a Roth IRA is to make sure to contribute enough to the 401(k) to receive the full amount of the matching contribution from the employer. If there is no matching contribution or the match has already been met, then it is time to focus on the Roth IRA.

For people under the age of 50, there is a $5,500 annual limit on contributions to a Roth IRA. If an individual would like to keep saving after contributing enough to max out their Roth IRA and 401(k) employer matching, then more can be added to the 401(k) for additional tax deductions. If both accounts have been maxed out, it may be time to turn to a brokerage account or deferred variable annuities.

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