24 May I have a new job. Should I use the Roth 401(k)?

Q. I have a new job and this employer gives me the choice of a Roth 401(k) and a regular 401(k). I don’t have any Roth IRAs or anything Roth. How can I decide which is best?
— Investor

A. We’re glad you’re taking a look at your options.

But without knowing your full tax picture, including your age, tax bracket, what state you will reside in when you receive future plan distributions, and more, it’s impossible to guide you as to whether to make regular or Roth 401(k) plan contributions.

A comparison of the differences when it comes to contributions and distributions may help you make the best decision for your situation, said Neil Becourtney, a certified public accountant and tax director with Smolin, Lupin & Co. in Red Bank.

Regular 401(k) plan contributions reduce both federal and New Jersey wages, Becourtney said.

Future distributions are fully taxable and any distribution received prior to attaining age 59 ½ will likely be subject to an additional 10% federal premature distribution penalty, he said.

“Roth 401(k) plan contributions do not reduce wage income thus current federal and New Jersey taxes will be paid on the amount contributed,” he said. “The reason an employee would consider making Roth 401(k) plan contributions is to obtain future tax-free distributions.”

Becourtney said Roth 401(k) plan distributions are nontaxable if they are either a return of contributions or if they meet the definition of a qualified distribution – made after the five-year period beginning with the first tax year for which a contribution was made and on or after attaining age 59 ½ (or due to being disabled or made to an estate beneficiary). The portion of any nonqualified distributions allocable to earnings will be subject to regular tax plus a 10% additional tax, he said.

The tax deferred investment growth that regular 401(k) contributions will generate will be offset by the current tax incurred on Roth 401(k) contributions, he said.

“If you will have moved to either a low tax state such as Pennsylvania or a no tax state such as Florida when you begin receiving distributions, making Roth contributions may have been unwise as you will have paid New Jersey tax on those funds years earlier,” he said. “Nobody knows what future tax rates will be.”

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This story was originally published in May 2024.

NJMoneyHelp.com presents certain general financial planning principles and advice, but should never be viewed as a substitute for obtaining advice from a personal professional advisor who understands your unique individual circumstances.