Comparing
their features, merits, and demerits.
How do you save for retirement? Two
options probably come to mind right away: the IRA and the 401(k). Both offer
you relatively easy ways to build a retirement fund. Here is a look at the
features, merits, and demerits of each account, starting with what they have in
common.
Taxes are
deferred on money held within IRAs and
401(k)s. That opens the door for tax-free compounding of those invested
dollars – a major plus for any retirement saver.1
IRAs and
401(k)s also offer you another big tax break. It varies depending on whether the
account is traditional or Roth in nature. When you have a traditional IRA or
401(k), your account contributions are tax deductible, but when you eventually
withdraw the money for retirement, it will be taxed as regular income. When you
have a Roth IRA or 401(k), your account contributions are not tax deductible,
but if you follow Internal Revenue Service rules, your withdrawals from the
account in retirement are tax free.1
Generally,
the I.R.S. penalizes withdrawals from these accounts before age 59½. Distributions from
traditional IRAs and 401(k)s prior to that age usually trigger a 10% federal
tax penalty, on top of income tax on the withdrawn amount. Roth IRAs and Roth
401(k)s allow you to withdraw a sum equivalent to your account contributions at
any time without taxes or penalties, but early distributions of the account
earnings are taxable and may also be hit with the 10% early withdrawal penalty.1
You must
make annual withdrawals from 401(k)s and traditional IRAs after age 70½. Annual withdrawals from
a Roth IRA are not required during the owner’s lifetime, only after his or her
death. Even Roth 401(k)s require annual withdrawals after age 70½.2
Now, on to the major differences.
Annual
contribution limits for IRAs and 401(k)s differ greatly. You may direct up to
$18,500 into a 401(k) in 2018; $24,500, if you are 50 or older. In contrast,
the maximum 2018 IRA contribution is $5,500; $6,500, if you are 50 or older.1
Your
employer may provide you with matching 401(k) contributions. This is free money coming
your way. The match is usually partial, but certainly nothing to disregard – it
might be a portion of the dollars you contribute up to 6% of your annual
salary, for example. Do these employer contributions count toward your personal
yearly 401(k) contribution limit? No, they do not. Contribute enough to get the
match if your company offers you one.1
An IRA
permits a wide variety of investments, in contrast to a 401(k). The typical 401(k) offers
only about 20 investment options, and you have no control over what investments
are chosen. With an IRA, you have a vast range of potential investment choices.1,3
You can
contribute to a 401(k) no matter how much you earn. Your income may limit
your eligibility to contribute to a Roth IRA; at certain income levels, you may
be prohibited from contributing the full amount, or any amount.1
If you
leave your job, you cannot take your 401(k) with you. It stays in the hands of
the retirement plan administrator that your employer has selected. The money
remains invested, but you may have less control over it than you once did. You
do have choices: you can withdraw the money from the old 401(k), which will
likely result in a tax penalty; you can leave it where it is; you can possibly
transfer it to a 401(k) at your new job; or, you can roll it over into an IRA.4,5
You cannot
control 401(k) fees. Some 401(k)s have high annual account and administrative fees that
effectively eat into their annual investment returns. The plan administrator
sets such costs. The annual fees on your IRA may not nearly be so expensive.1
All this
said, contributing to an IRA or a 401(k) is an excellent idea. In fact, many
pre-retirees contribute to both 401(k)s and IRAs at once. Today, investing in
these accounts seems all but necessary to pursue retirement savings and income
goals.
Taylor McClish may be reached at (503) 239-3060 or Taylor.McClish@cunamutual.com
This material was prepared by MarketingPro, Inc., and does not
necessarily represent the views of the presenting party, nor their affiliates. This
information has been derived from sources believed to be accurate. Please note
- investing involves risk, and past performance is no guarantee of future
results. The publisher is not engaged in rendering legal, accounting or other
professional services. If assistance is needed, the reader is advised to engage
the services of a competent professional. This information should not be
construed as investment, tax or legal advice and may not be relied on for
avoiding any Federal tax penalty. This is neither a solicitation nor
recommendation to purchase or sell any investment or insurance product or
service, and should not be relied upon as such. All indices are unmanaged and
are not illustrative of any particular investment.
Securities sold, advisory services offered through CUNA Brokerage Services, Inc. (CBSI), member FINRA/SIPC, a registered broker/dealer and investment advisor. CBSI is under contract with the financial institution to make securities available to members. Not NCUA/NCUSIF/FDIC insured, May Lose Value, No Financial Institution Guarantee. Not a deposit of any financial institution. CUNA Brokerage Services, Inc., is a registered broker/dealer in all fifty states of the United States of America.
Citations.
1 - nerdwallet.com/article/ira-vs-401k-retirement-accounts
[4/30/18]
2 - irs.gov/retirement-plans/retirement-plans-faqs-regarding-required-minimum-distributions
[5/30/18]
3 - tinyurl.com/y77cjtfz
[10/31/17]
4 - finance.zacks.com/tax-penalty-moving-401k-ira-3585.html
[9/6/18]
5 - cnbc.com/2018/04/26/what-to-do-with-your-401k-when-you-change-jobs.html
[4/26/18]
09172018-WR-2617