Should I choose a Roth 401(k)?

Ask NJMoneyHelp

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Q. My employer recently added a Roth 401(k) option to our retirement plan. I contribute the max to the regular 401(k). How can I decide if I should do the Roth part?
— Learning

A. Saving to a 401(k) is a great way to plan for retirement, but there are different benefits if you’re talking a Roth 401(k).

Deciding how much to allocate to each option depends on your current tax situation, said Paul Criscione, a certified financial planner with Freedom Capital Management in Colts Neck.

He said contributing towards a traditional 401(k) will help reduce your current tax liability because contributions reduce your taxable income.

“Investments grow tax deferred which increases your potential growth due to compounding,” he said. “However, since these dollars were never taxed when deposited, you will pay ordinary income taxes upon withdrawal at retirement.”

Ordinary income taxes are normally one of the highest taxes an individual pays, Criscione said.

If you have many deductions or reducing your taxable income is not a priority, you may fair better by contributing towards your Roth, he said.

Roth 401(k) contributions are made after-tax, investments grow tax free and all qualified distributions are tax-free,” he said. “If you believe your taxable income will be higher later in life then the Roth option may be a better choice.”

Keep in mind, Criscione said, that your current tax liability may be higher now since your Roth contribution does not reduce your taxable income as does a traditional 401(k).

Roth 401(k)s generally favor younger individuals with lower taxable incomes, he said, while traditional 401(k)s favor higher income earners because it reduces their federal taxable income by the amount of their contribution.

For 2018, you can contribute a total of $18,500 per year to either type of account or a combination of both. If you’re 50 years old or older, an additional catch-up contribution of $6,000 is allowed. Matching or profit sharing would be in addition to this, Criscione said.

“If your employer matches a regular 401(k) plan contribution, it’s normal to match a Roth 401(k) contribution as well,” he said. “However, the employer’s contribution is placed into a traditional 401(k) plan and is taxable upon withdrawal.”

Criscione said it’s important to note that assets can be converted from your traditional 401(k) into a Roth vehicle by performing a Roth conversion. You would be liable to pay taxes on the amount that is converted in the year of conversion. However, those assets are now eligible to continue to grow tax deferred and tax free upon distribution, he said.

And remember, you don’t have to choose. You can split your contributions until you reach the max.

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