If you’re like me, you may not know about all the different retirement vehicles and which ones you can have. Since I turned 50 last year, I’ve been learning as much as I can about all the different types of savings I can use to save as much as possible for retirement. Here’s what I’ve learned about having a Roth IRA and a 401k simultaneously.
Can You Have A Roth IRA and A 401k?
Yes, you can invest in a Roth IRA and a 401k in the same year. The IRS allows people to invest in these vehicles simultaneously, which can significantly increase the amount you can save for retirement in the same year. That said, there are contribution limits, income restrictions, and other things you will need to consider when deciding which to contribute.
I’m not a financial expert, but I will share what I’ve learned and which one I’m contributing to.
I’ll also share some important links for you to do your own research. Learning about this stuff is extremely important, especially if you’re behind on your retirement like I am.
Don’t forget to follow me on Twitter, where I share whenever I make a new investment in any of my investments. My goal is to have a net worth of a million dollars in the next 10 years. So feel free to join me in catching up on retirement.
Okay, enough of that; let’s get started on what you need to know about having a Roth IRA and 401k.
Roth IRAs Vs. 401ks
Both are retirement savings options available to anyone earning income, whether through a job or self-employment. However, there are some key differences you must understand.
- Contribution Limits: In 2023, the maximum amount you can contribute to a Roth IRA is $6,500 ($7,500 if you’re 50 or over).
- Income Restrictions: There are income limits for contributing to a Roth IRA. Check the IRS guidelines to see if you qualify. If you’re one of the lucky ones that earn a high income, you can always check into a backdoor IRA.
- Tax-Free Withdrawals: Your money is taxed going into the account but grows tax-free within the account. You can begin making tax-free withdrawals at 59½ or after a five-year waiting period. Here’s a look at my Vanguard Roth IRA.
- No Required Minimum Distributions (RMDs): You are not required to withdraw the money in your lifetime because you’ve already paid taxes on it. So if you’ve saved enough money in your other investments, you can leave your Roth IRA to your heirs.
Depending on how you earn your income, there are several types of 401k vehicles. I won’t discuss the different types of 401ks available in this article. Instead, I’ll share some of the features and benefits of investing in a 401k.
- Contribution Limits: For 2023, employees can contribute $22,500, and those over 50 can make an additional catch-up contribution of $7,500, making it a total of $30,000 contribution into your 401k. The limits are higher if you’re self-employed and have a Solo 401k like mine.
- Matching Contributions: Some employers may offer to match some or all of your 401k contributions, which will help increase your overall savings. If anything, make sure you’re fully vested to get the company’s match.
- Tax Deferred Growth: Your contributions grow tax-deferred in a 401k, and whether you pay taxes when you start withdrawing depends on whether you have a Traditional or Roth 401k.
- Spouse: You can contribute to an IRA for a nonworking spouse, and the IRS even allows catch-up contributions.
- Required minimum distributions (RMDs): You must start taking RMDs from your 401k when you turn 72, even if you don’t need the money.
Who Can Make Contributions?
Anyone who earns an earned income can contribute to an IRA. This includes wages, salaries, commissions, and self-employed income.
However, there are income limits based on your modified adjusted gross income (MAGI) that determine whether you’re eligible to contribute the maximum amount or have reduced eligibility. So instead of me covering the income limits, Fidelity has put together a table that discusses the Roth IRA contribution limits and eligibility requirements.
Roth IRA Eligibility
Before contributing to a Roth IRA, make sure you don’t make too much. If you earn too much (that’s a great problem to have), you need to use the loophole to contribute.
The contribution limits are adjusted annually for inflation, so check the contribution limits every year. The great thing is that most reputable brokerage companies will let you know how much you can invest yearly without going over. At least I know Vanguard does. Here’s how much I’ve invested in my Roth this year.
As mentioned, there are several 401k vehicles. However, I am only discussing an employer’s plan in this article. Eventually, I’ll share my personal experience with a Solo 401k.
I can share my experience with an employee 401k since I recently opened one at Lowes Hardware.
Unlike a Roth 401k, anyone can contribute to one if your employer offers it, regardless of how much you make. That said, some employers may have a waiting period and age limit before you can contribute.
Also, employers are not obligated by law to offer a 401k. If your job doesn’t offer one, you may only be able to invest in a Roth IRA.
If you haven’t signed up, check with your company’s human resources department for specific eligibility requirements.
Remember that contributing to a 401(k) doesn’t necessarily prohibit you from also contributing to a Roth IRA.
As long as you meet the respective eligibility requirements for each account, you can contribute to both a Roth IRA and a 401(k) and enjoy the tax benefits of each type of retirement account.
Contribution Limits and Catch-Up Contributions
When contributing to your retirement savings, be aware of the contribution limits for both your IRA and 401k plans. If you exceed the contribution limits, you will be penalized.
According to this site, the IRS will charge you a 6% penalty tax on the excess amount every year until you correct the error. For example, if you contributed $500 more than allowed, you’d have to pay an additional $50 yearly in your taxes until you corrected the mistake.
When I opened up my Solo 401k last year, I thought I had contributed too much. I was scared until my CPA told me that I was okay.
As mentioned, you usually don’t have to worry about over-contributing, as must brokerage accounts keep track of how much you’re investing and won’t let you go over the limits.
So the only things you have to worry about are:
- Making sure you’re contributing enough to match your employer’s match. For instance, I’m contributing 6% of my Lowe’s income, and Lowe’s matches my investment up to 4.5%. Since I’m fully vested, I throw the rest of my money in the Roth.
- If you’re 50 or older (if you’re on this website, I’m assuming you are), don’t forget about the additional catch-up contributions you can make to your Roth IRA and 401(k) accounts.
Employer Matching Contributions
You don’t have to worry about employer contributions unless you’re self-employed. Just make sure you’re investing enough to get the “free money” your employer offers. This can help you grow your retirement savings more quickly.
To receive an employer match, you typically must contribute a certain percentage of your salary to your 401(k) plan. If you’re unsure what that is, check with your human resources.
Employer matches can be made to both a traditional and Roth 401k.
But it’s important to note that matching contributions to a Roth 401(k) are always treated as pre-tax dollars, even if your contributions are made on an after-tax basis.
This means that when you withdraw funds from your Roth 401(k), the employer match portion will be subject to taxes. I had no clue this was the case until I read this site.
Where Should I Open My Roth IRA and 401k?
Now that you know the differences and benefits of each, you’re probably wondering where do I open them and how to get started. Well let’s look at how to open each one.
With a 401(k), your investment choices are typically limited to the ones offered by your employer’s plan. For instance, Lowe’s had a few options, and I chose the Vanguard Target Retirement 2035 Fund (VTTHX).
I chose that option because it’s a Vanguard investment, and I’m familiar with Vanguard as that’s where I have my Roth IRA.
Most employee 401k plans include a range of mutual funds, index funds, and target-date funds.
While the selection might not be as extensive as you’d like, it’s still crucial to carefully consider your options and select investments that align with your risk tolerance and financial goals.
With a Roth IRA, you have greater flexibility when it comes to investment choices. This can be a great thing or a bad thing. Unfortunately, it’s a bad thing for many people because they have no clue what to invest in.
So many of them end up NOT doing anything because they’re afraid they will make a mistake. When I opened my Roth in 2019, I had no clue what to do. It wasn’t until I read “The Simple Path to Wealth” and binge-watched this YouTube channel that I decided to make a move.
Here’s a look at my Vanguard Roth IRA.
As for fees, both types of accounts have management and administration costs. So, choosing the ones with the lowest fees is essential, as they can significantly impact your long-term returns.
- 401(k) fees: Employers usually cover the administrative fees, but the investment fees are often passed onto you. These may include expense ratios for mutual funds, management fees, and transaction costs. It’s a good idea to review your 401(k) plan documents or speak with your plan administrator to understand what fees you’re being charged.
- Roth IRA fees: With a Roth IRA, you’ll be responsible for any fees associated with the investments you choose, such as expense ratios for mutual funds and trading commissions. However, many brokers and financial institutions offer low-cost investments and might even waive certain fees if you meet minimum balance requirements or agree to automatic monthly contributions. So it’s essential to shop around before opening an IRA.
Most brokerage accounts allow you to open a Roth IRA. I’d recommend opening it with one of the well-known companies such as; Vanguard, Fidelity, etc.
Roth IRA and 401k Withdrawal Rules
When you’re ready to start withdrawing from your accounts, you must understand the different rules. I’m nowhere near withdrawing from my accounts, but here’s what I’ve learned.
Roth IRA Withdrawals
- The IRS allows you to withdraw 100% of your contributions without penalties. However, if you withdraw any of the gains before 59½ or the 5-year waiting period, you will incur a 10% early withdrawal penalty.
- Loans: Sometimes, you can take a loan from your 401k without incurring tax penalties. Remember to follow the rules and repay the loan on time to avoid potential taxes and penalties.
- Hardship Distributions: You may qualify for a hardship distribution to help you avoid financial hardship, such as; medical expenses, etc. You’ll still pay income tax on the amount but may be able to avoid the 10% early withdrawal penalty.
Consider your situation while planning your withdrawals, and consult with a financial professional if needed.
Which Account Is Right For You?
This is a personal choice, but if you can afford to open both, then do that.
The government allows you to invest in both a 401k and Roth simultaneously.
So if you’re behind on your retirement like me, I recommend using both vehicles to catch up. Here are the investment accounts I’m contributing to, so you can see how I’m doing it.
I realize that everyone’s finances are different, but if you see how I’m doing it, it may help you save more than you’re currently saving.
- Employer 401k: I’m investing 6% of my income biweekly, which isn’t much since I’m part-time. However, I’m fully invested, which means I’m getting the “free money” from my employer.
- Solo 401k: With my self-employed 401k, I’m putting all my business income into my savings account. Then at the end of the year, I’ll invest what my CPA says I can put into it. I’m hoping that I’ll be able to max it out, but we’ll see.
- Roth IRA: I’ve been maxing out my Roth IRA for the last three years and plan on doing it this year too.
- Brokerage Account: While not a retirement vehicle, I also invest in my M1 and Fidelity brokerage accounts. My goal is to invest as much as possible, and since there are income limits on retirement accounts, there are no limits to investing in a brokerage account.
I know what you’re thinking; I don’t have enough money to invest in all those accounts. That’s okay; invest in whatever plans you can afford.
The great thing is you don’t have to max out any of the plans. If you can only afford to put $3000.00 per year in your Roth, then that’s all you can do. You won’t get penalized for NOT maxing any of your accounts.
So even if you can only put $50 a month into your accounts, do it. The most important thing is to get started saving. Otherwise, you will regret it when you get older and don’t want to work anymore.
Is It Too Late to Open A Roth or 401k?
Most of the blogs, videos, and information you find online is dedicated to investing for the younger generation. If you’re 50 or older, this can demotivate and make you think it’s too late to start.
However, don’t let your age stop you from getting started. I started investing at 47 and opened my 401k last year at 49. Yes, I had a 401k before, but unfortunately, I had to withdraw it due to hardships years ago.
So here I am at 50, trying to save as much as possible for my golden years.
Take it from me; it’s not too late. In fact, you have to do something today if you ever want to stop working for the man. You have no one to rely on, but yourself, and social security won’t be enough to provide you the lifestyle you deserve.
You can have a Roth IRA and 401k at the same time in the same year, by contributing to both, maximizing your retirement savings opportunities, and diversifying your investment portfolio.
Make sure you’re following the eligibility and contribution limits so you don’t get penalized.
Investing in both is a smart move for your financial future.
If you’re still not sure how to get started, seek advice from your human resources manager for the employee 401k. For a Roth IRA, you can seek professional advice, but I recommend watching this YouTube channel or reading the “Simple Path to Wealth. by JL Collins.
These two resources helped me get started, and I continue to follow the advice I learned for my Roth IRA.