IRA vs. 401(k): Benefits and differences (2024)

FAQs

IRA vs. 401(k): Benefits and differences? ›

Saving With an IRA

The 401(k) is simply objectively better. The employer-sponsored plan allows you to add much more to your retirement savings than an IRA – $23,000 compared to $7,000 in 2024. Plus, if you're over age 50 you get a larger catch-up contribution maximum with the 401(k) – $7,500 compared to $1,000 in the IRA.

Roth IRA benefits include a tax break in retirement

Since you contribute after-tax dollars, your earnings and withdrawals are not taxed in retirement. That's a serious advantage to investors, particularly if you're in your 20s or 30s, because of the potential to compound tax-free funds over your working years.

When comparing the 401k and the Traditional IRA, what benefit is sometimes offered by the employer to make the 401k a better choice? Some employers will match the employee's contributions in the 401k.

Pro: 401(k)s can help you budget for retirement. Con: It can be difficult to access funds early. Pro: You'll save on taxes while working. Con: You might pay higher taxes later.

IRA drawbacks

One drawback of using IRAs to save for retirement is that the annual contribution limits are relatively low. In 2024, you can contribute up to $23,000 to a 401(k) plan, but you can only contribute $7,000 to an IRA in 2024 unless you're at least 50 years old, in which case the limit is $8,000.

An IRA, or Individual Retirement Account, is a tax-advantaged retirement savings account that offers tax benefits, including income tax-free or tax-deferred growth - which can help your retirement savings grow faster than it would in a traditional savings or investment account.

The $1,000 per month rule is designed to help you estimate the amount of savings required to generate a steady monthly income during retirement. According to this rule, for every $240,000 you save, you can withdraw $1,000 per month if you stick to a 5% annual withdrawal rate.

Should I move my 401k to an IRA? ›

Generally, from a tax perspective, it is more favorable for participants to roll over their retirement plan assets to an IRA or new employer-sponsored plan rather than take a lump-sum distribution.

The list of cons may be short for Roth 401(k)s, but missing tax deferral is a big one. When faced with a choice of paying more tax now or later, most people choose to pay later, hence the low participation rates for Roth 401(k)s.

One of the biggest upsides of a 401(k) plan is that the contributions you make are tax-deferred. A portion of your salary drops directly into your 401(k) before taxes. It can then grow tax-free until you begin making withdrawals after you retire.

Tax Disadvantages of 401(k) Plans

401(k)s are taxed at higher earned income rates, as opposed to lower capital gains rates. You will find yourself paying capital gains taxes on other types of investments such as real estate and regular growth accounts.

As a general rule, employees who expect to be in a lower marginal tax bracket after they retire might want to opt for a traditional 401(k) and take advantage of the immediate tax break. Employees anticipating a higher tax bracket after retiring might choose a Roth 401(k) to avoid paying taxes on their savings later.

Key Takeaways. Contributing as much as you can and at least 15% of your pre-tax income is recommended by financial planners. The rule of thumb for retirement savings says you should first meet your employer's match for your 401(k), then max out a Roth 401(k) or Roth IRA. Then you can go back to your 401(k).

Generally, from a tax perspective, it is more favorable for participants to roll over their retirement plan assets to an IRA or new employer-sponsored plan rather than take a lump-sum distribution.

Pros. The Roth IRA offers several advantages, including the special ability to avoid taxes on all money taken out of the account in retirement, at age 59 ½ or later.

The Bottom Line. In a 401(k) vs. Roth IRA matchup, a Roth IRA can be a better choice than a 401(k) retirement plan, as it typically offers more investment options and greater tax benefits. It may be especially useful if you think you'll be in a higher tax bracket later on.