To Roth or not to Roth…That is the Question

June 9, 2014 12:00 am

Richard J. Anzelone, J.D.

Partner & CCO

You’re in your office and your human resources manager approaches you with a form that you need to fill out for the upcoming year with respect to the amount of your salary you want deducted from your paycheck for your 401(k) contributions. The form gives you the options to continue the same contributions, stop contributions, increase contributions or decrease them.  These are not always easy decisions, especially if expenses have come up recently that were not anticipated.  As you struggle to make a decision, your human resources manager throws a monkey wrench into the equation and says “By the way, the company just added the option of a Roth 401(k) so please let me know how much, if any, you want to contribute to that account.”   Now what do you do?  In our opinion, it’s actually a good problem to have, but at the moment you may feel overwhelmed by yet another decision you need to make.  Then you think to yourself, “StrategicPoint frequently writes blogs about different topics… maybe there’s one about Roth 401(k)s.”  Well, look no further: here are some of the characteristics of a Roth 401(k) you should consider prior to making any decision.

What is a Roth 401(k)?
A Roth 401(k) is basically a traditional 401(k) that accepts Roth 401(k) contributions.  Contributions to a Roth 401(k) are done on an after tax basis, so there is no up-front tax benefit like you get when you contribute on a pretax basis to a traditional 401(k).  However, if you meet certain criteria (as explained below) and contribute after tax money into a Roth 401(k), the earnings in the account will be free from income tax upon withdrawal. In 2014, you can contribute a maximum of $17,500 ($23,000 if you’re age 50 or older) to a 401(K) plan.  You can split your contributions between a pretax traditional 401(k) and an after tax Roth 401(k) or make contributions to just one of them.

Who can contribute to a Roth IRA?
A traditional Roth IRA will not allow you to contribute if your income is above a certain amount.  In 2014, you cannot contribute to a Roth IRA if your modified adjusted gross income is greater than $191,000 for a married couple filing jointly and $129,000 for a single person.  On the other hand, with a Roth 401(k) you can make contributions regardless of your income. So if you have felt slighted all these years because you couldn’t contribute to a Roth IRA, here is your opportunity.  Another important fact to keep in mind is that if you are currently contributing to a traditional Roth IRA, you will still be allowed by law to contribute to your company’s Roth 401(k).

How is a Roth 401(k) taxed vs. a traditional 401(k)?
As mentioned above, distributions from a Roth 401(k) account are tax free.  Because your contributions are made with after tax dollars, they are always free from income tax when distributions are made.  But if there are any earnings in the account, they are free from income tax when distributed if they are considered “qualified distributions”.  Generally, distributions are qualified if (1) they are made after the end of a five year waiting period and (2) the payment is made after you turn 59 ½, become disabled or die.   The 5 year period starts on January 1st of the year you make your first contribution to the Roth 401(k).  If your distributions are not qualified then you pay taxes on the amount received from earnings and will pay an additional 10% tax penalty if not yet 59 1/2 years of age.

What about the company match?
If your employer contributes to your 401(k), many will match all or part of your contributions, depending on how much you contribute.  Your employer can match your Roth 401(k) contributions, your traditional 401(k) pretax contributions or both.  But remember, your employer’s contributions are always made on a pretax basis even if they match your Roth 401(k) contributions.  Basically, this means that your employer’s contributions will be taxed upon distribution.

What should I do?
So now that you know some of the basics of a Roth 401(K), what should you do? Well, most people may not want to hear this, but it really does depend on your personal situation.  This is why it is important not to make a decision based on what your co-workers may be doing.  Let’s look at the potential tax consequences as a guide  prior to making a decision.

If you think your tax bracket will be the same or higher when you retire, after tax Roth 401(k) contributions may make more sense because you are basically locking into lower income taxes NOW.  But if you think you will be in a lower income tax bracket during retirement, pretax 401(k) contributions may be appropriate in order to take advantage of the tax break up front and pay the lower income taxes upon distribution.  If you don’t know what tax bracket you will be in upon retirement, which many of us do not, then maybe a good idea would be to make contributions to BOTH the traditional 401(k) and Roth 401(k).   This could be a good compromise and takes the unknown out of the equation.  Also remember, your time horizon can also determine what is best for you.

So when your human resources manager gives you the paperwork to fill out, don’t panic.  Instead, weigh your options but at the very least contribute as much as you can to your 401(k) or at least enough to take advantage of your employer’s match.  It also makes a lot of sense to sit down with your financial advisor to determine what is best for you.

Richard Anzelone, J.D. is Managing Director and CCO at StrategicPoint Investment Advisors in Providence and East Greenwich. You can e-mail him at

The information contained in this post is not intended as investment, tax or legal advice. StrategicPoint Investment Advisors assumes no responsibility for any action or inaction resulting from the contents herein. Rick’s opinions and comments expressed on this site are his own and may not accurately reflect those of the firm. Third party content does not reflect the view of the firm and is not reviewed for completeness or accuracy. It is provided for ease of reference.