What Are Roth 401(k) Deferrals and How Are They Different?

When our participants use their Beneco Plan for retirement saving, a question we often get revolves around pre-tax contributions and after-tax Roth contributions. Specifically, what is the difference between the two and which one is “better?” Keep in mind, not every employer-sponsored plan offers the Roth contribution option. Be sure to double check your plan’s Summary Plan Description (SPD) to verify that a Roth option is available.

A Roth contribution to your employer-sponsored plan is an after-tax contribution, meaning the dollars are taken from your paycheck after taxes are withheld. Any Roth contributions made to the plan are not tax-deductible, because they are taken from your paycheck after taxes are withheld. This is different from pre-tax contributions where the dollars are taken from your paycheck before taxes are withheld and, therefore, are tax-deductible and not reportable as income.

Since Roth contributions are taxed going in to the plan, they are not taxable upon withdrawal from the plan. The investment earnings your contributions make while invested will be taxable to you as earned income unless you meet BOTH of the following criteria: you are over age 59½ AND the account has been established for at least five (5) years. Once you have attained these two provisions, both your contributions and investment earnings can be withdrawn tax-free.

Roth contributions are considered elective deferrals, so there is a limit on how much you can contribute for the calendar year. For 2015, the limit for elective deferrals is $18,000. You may contribute any combination of Roth and pre-tax contributions up to the $18,000 limit. This limit may increase as the IRS does adjust it periodically.

The benefit that Roth contributions offer is tax-free withdrawals at retirement, especially if you are anticipating being in a higher tax-bracket at retirement. Roth contributions also offers “tax diversification,” meaning that not all dollars in your retirement plan are pre-tax and therefore, all dollars will not be taxable to you upon withdrawal. If you’re not sure which option is right for you, please consult your tax advisor.

Should you have any questions about your Beneco Plan, please contact our Participant Resource Center at 1-888-608-2680. Hours are Monday through Friday from 7:00am to 5:00pm Mountain Standard Time.