I just got an email announcing that my company is adding the option of a Roth 401(k) for next year. That's pretty appealing to me, given my low tax bracket--but one does hear finance-types whispering about "tax diversification," so maybe I shouldn't be putting all my eggs in one basket? I also hate the messiness and complication of having lots of little accounts floating around, so it would be even more appealing to me if there were some way of rolling my current 401(k) balance in--but then again, I believe it's the case that your employer can't contribute a match directly to a Roth 401(k), so I guess I'd have to keep the standard one open anyway.
Anyway, more research is clearly needed: I'll post more information about the Roth 401(k) as I find it.
Thursday, November 29, 2007
Roth 401(k)?
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My company has the Roth 401(k) and it's in the same account as my regular 401(k)--I contribute to both. I find it a little confusing, actually, and wish they were seperated.
Someone once did the math and found that contributing to the Roth and the tax-sheltered retirement plans usually work out fairly evenly. I don't remember the assumptions, though. I do it just to keep my eggs in different baskets.
You'd need to pay tax on the rollover and I doubt you can do it until you leave your current job. But maybe that's not the case.
I have both options- my solution was to contribute 6% of gross to the regular 401(k), with my match directed to this account, and 8% of gross to the Roth 401(k). The total 14% retirement contribution is invested the same way, although my plan (managed by Fidelity) does allow you to manage them differently if you choose.
I can't really speak to a good reason why I've done it this way, other than I had also heard rumblings about 'tax diversification', and didn't want to get hit with too big of a net pay reduction since your company will withhold taxes on the Roth contributions.
Do the Roth!!! Yay for you; I know so many people who wish their company offered one.
I did tons of research on this for myself when my company started offering it last year, and the general consensus is that most people (even middle aged people taking in 6 figures) will end up better off by contributing to the Roth. The only people who might not end up better off are those close to retirement who are relatively certain their income brackets will decrease in retirement (perhaps because they're moving from a high tax state to a no tax state). I won't repeat it all here (read post on my blog if you're interested), but suffice it to say you will probably NOT regret choosing a Roth when you're 70 and you don't have to worry about taxes in your old age!!!
Plus, it's not complicated and you will still just have one account. I used to contribute to a regular 401k and switched to Roth when my company started offering it. I still get one statement and it's all in one account; there's just a pie chart showing how much of that is Roth and how much is Traditional.
I agree with MEG, there is a slight edge to the Roth plan. However, unless you have some crazy tax burden at the tender age of 24, I highly doubt you should be worrying about tax diversification. I get the feeling that's aimed at people who pay property taxes on homes, get a lot of dividends, own a business with profits they want to shelter, etc. When I was 24, I hardly paid any takes because I got refunds back. Seems to me, you might be in the same boat I was back then.
Ironically I just posted about this topic today! Tax diversification is important if you are unsure how your tax bracket will compare to today. Because the laws can change, no one can ever be sure. However, ideally I'd like to believe, when you are very young, you really don't have anywhere to go but up! You won't be able to complete the rollover unless your company allows in-service withdrawals, check your Summary Plan Description. You are correct that the company match must be in a pre-tax account. You are very lucky, I wish my company would offer the Roth 401k, I'd sign up immediately.
my vote is for the roth. b/c you are eons from retirement age, the tax free growth of your investments def. outweighs your current tax bracket.
Another reason you should do the roth while you can: you will likely still end up with plenty of Traditional, or tax-deferred, retirement savings in the end.
1) You already have some Traditional 401k assets.
2) You probably won't work somewhere where they offer a Roth forever, so you may end up having to go back to a Traditional 401k.
2) Your employer matches are tax deferred.
3) Your spouse (if/when you have one) will likely already have tax deferred assets and may not work for someone who offers a Roth.
4) The government may eliminate Roth options entirely in order to increase tax revenue.
Get 'em while you can!
A couple points come to my mind, some of which have already been hinted at. First, a Roth 401(k) is, on its own, tax diversification. As you point out, employer contributions are treated the same as with a traditional 401(k). Second, you should max out the Roth advantages both while it still exists and while you're under the income limits and "catch up" on the tax diversification later. I don't see any evidence that the Roth is going to go away, but you never know what a future Congress might do. As for the other, you might not have any plans to go over the income limits any time soon, but you very well might be in ten or fifteen years. Do as much Roth as you can while you can. (When I changed jobs recently, I had a year when I was under the income limits to convert my old 401(k) to a Roth IRA. I took a huge tax bite to do it, but I think it'll be well worth it in the long run.)
By the way, my last comment might have made it seem like the Roth 401(k) has income limits, which as far as I know it doesn't. I was talking principally about Roth IRAs when I made that comment. I just wanted to clear up any confusion I might have caused.
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