Table of Contents
Table of Contents

Roth IRA vs. 401(k): What’s the Difference?

Max out both (if you can) to boost your nest egg

Roth IRA vs. 401(k): An Overview

Both Roth IRAs and 401(k)s are popular tax-advantaged retirement savings accounts that allow your savings to grow tax free. However, they differ where tax treatment, investment options, and employer contributions are concerned.

Contributions to a 401(k) are made pre-tax, meaning they are deposited before your income taxes are deducted from your paycheck. The amounts are tax deductible, thereby reducing your taxable income. However, in retirement, withdrawals are taxed at your then-current income tax rate.

Conversely, there is no tax deduction for contributions to a Roth IRA. However, the contributions and earnings can be withdrawn tax free when in retirement.

In a perfect scenario, investors would use both accounts to put aside funds that can then grow tax deferred for years. However, before deciding on such a move, there are several rules, income limits, and contribution limits that investors should be aware of.

Key Takeaways

  • Both Roth IRAs and 401(k)s allow your savings to grow tax deferred.
  • Many employers offer a 401(k) match, which matches your contributions up to a specific percentage of your income.
  • Contributions to a 401(k) are tax deductible and reduce your taxable income before taxes are withheld from your paycheck.
  • There is no tax deduction for contributions to a Roth IRA, but contributions can be withdrawn tax free in retirement.
  • Retirement distributions from 401(k)s are taxed at ordinary income tax rates.

Roth IRAs

A variation of traditional individual retirement accounts (IRAs), a Roth IRA is set up by an individual at an investment firm. Your employer is not involved.

You control your Roth IRA and your investment choices aren’t limited in the way that 401(k) plan investment options typically are. This gives Roth IRA holders a greater degree of investment freedom than employees have with 401(k) plans (even though the fees charged for 401(k)s are typically higher).

In contrast to the 401(k), after-tax money is used to fund a Roth IRA. This means that you get no tax deduction in the years that you make contributions. However, your money grows tax free and no income taxes are levied on qualified distributions during retirement.

Roth IRA Contribution Limits

The annual contribution limits are much smaller with Roth IRA accounts than for 401(k)s. For 2021 and 2022, the maximum annual contribution for a Roth IRA is:

  • $6,000 if you’re under age 50
  • $7,000 if you’re age 50 or older, which includes a $1,000 catch-up contribution

These limits increase starting in 2023. The new annual contribution limits are:

  • $6,500 if you're under age 50.
  • $7,500 if you are age 50 or older.

Roth IRA Income Limits

The Roth IRA limits your contributions based on earned income. In other words, how much you can contribute to a Roth IRA depends, in part, on how much you earned in a year. What's more, the contribution amount allowed can be reduced, or phased out, until it's eliminated, depending on your income and filing status for your taxes (i.e., single or married). Income limits are different for 2021 and 2022.

2022

Individuals filing taxes as single can make a full contribution to a Roth if their annual income is less than $129,000. Contribution amounts are reduced if your income ranges from $129,000 to $144,000. If you earn more than $144,000, you can't contribute anything to a Roth IRA.

If you are married and filing jointly, you can make a full contribution if your combined income is less than $204,000. Your contribution amounts will be reduced if your income is between $204,000 and $214,000. If you earn more than these IRS-imposed limits, you can’t contribute to a Roth IRA.

2023

Individuals with a tax filing status of single can make a full contribution if their annual income is less than $138,000. Contribution amounts are reduced (phased out) if your income ranges from $138,000 to $153,000. If you earned more than $153,000, you can't contribute anything to a Roth IRA.

Married couples filing jointly can make full contributions if they make less than $218,000. The income phase-out range is $218,000 up to $218,000.

Roth IRA Withdrawals

You can withdraw your Roth IRA contributions at any time or any age without incurring tax or penalty. Withdrawals on earnings, however, could be subject to income taxes and a 10% penalty, depending on your age and how long you’ve had the account.

Importantly, unlike 401(k)s, Roth IRAs have no required minimum distribution (RMD) rules. So, during your lifetime, you don't have to take any withdrawals from your account. If you don’t need the money in retirement, you can leave it in the account, where it can continue to grow tax-free for your beneficiaries.

If you do take withdrawals, you can avoid taxes and the penalty if your account is at least five years old and the withdrawal is:

If you don’t meet these guidelines, you may be able to avoid the penalty (but not the tax) if a qualified exception applies.

Below is a rundown of the pros and cons of Roth IRAs.

Pros
  • Withdrawals are tax free in retirement

  • More investment choices

  • No RMDs during your lifetime

Cons
  • Lower contribution limits

  • Income limits can prevent you from contributing

  • No employer match

401(k) Plans

Named after section 401(k) of the Internal Revenue Code, a 401(k) is an employer-sponsored retirement plan. To contribute to a 401(k), you designate a portion of each paycheck that should go into the plan. These contributions occur before income taxes are deducted from your paycheck. Contributions are tax deductible.

The investment options among different 401(k) plans can vary tremendously, depending on the plan provider. Typically, plans offer a mix of mutual funds and exchange-traded funds, which contain a basket of securities or stocks.

Nevertheless, no matter which fund (or funds) you choose, no investment gains are taxed by the Internal Revenue Service (IRS) until the funds are withdrawn (whereas Roth IRA withdrawals are not taxed).

Notably, 401(k)s have much higher contribution limits than Roth IRAs do.

401(k) Contribution Limits

The 2022 contribution limits are as follows:

  • $20,500 if you’re under age 50 (rising to $22,500 in 2023)
  • $27,000, which includes an allowance for a catch-up contribution of an extra $6,500 if you’re age 50 or older. The catch-up contribution increases to $7,500 in 2023, for a total annual contribution of $30,000.

401(k) Employer Match

Overall, 401(k) plans are most beneficial when your employer offers a match. A match means employers contribute additional money to your 401(k) account. The match is usually a percentage of your contribution, up to a certain percentage of your salary.

For example, your employer might match 50% of your contributions, up to 6% of your salary. The employer match doesn’t count toward your contribution limit, but the IRS does cap the total amount that can go into your 401(k) each year (your contributions plus the match).

For 2022 and 2023, the combined contribution limits for a 401(k) are as follows:

2022

  • $61,000 in total contributions if you're under age 50
  • $67,500 if you're age 50 or older, including the $6,500 catch-up contribution
  • 100% of your salary (if it's less than the dollar limits)

2023

  • $66,000 in total contributions, including employer match, if you're under age 50
  • $73,500 if you're 50 or older, including catch-up contributions
  • 100% of your salary

401(k) and Taxes

You get a tax break when you contribute to a 401(k). That's because you can deduct your contributions when you file your income tax return. This reduces your taxable income, which can save you money.

You’ll pay taxes after you reach retirement age and begin to make withdrawals from the plan. These withdrawals are called distributions and are subject to income taxes at your then-current tax rate. If you think your income will be higher when you retire, you may want to plan ahead, as all income from your distributions will be taxed.

Investment gains within your 401(k) are not taxed by the IRS until you make withdrawals. This allows your account value to grow undiminished by taxes for years.

401(k) Required Minimum Distributions

If you have a 401(k), you have to start taking required minimum distributions (RMDs) at a certain age. Your RMD is the minimum amount that must be withdrawn each year from your 401(k) account when you're in retirement.

In other words, you can't leave all of your money in an 401(k). If you do, you'll incur a 50% tax penalty on the amounts of the RMD that were not withdrawn.

You must begin taking required minimum distributions by April 1 of the year following the year you turn 72 (age 70½ if born before July 1, 1949) or the year you retire, whichever is later.

Here’s a quick look at the pros and cons of 401(k) plans.

Pros
  • Employer match

  • Higher contribution limits

  • Maintained by employer

Cons
  • Fewer investment options

  • Required minimum distributions

  • Higher fees

Key Differences

Here’s a rundown of the differences between Roth IRAs and 401(k)s.

Roth IRAs vs. 401(k)s
Feature Roth IRA 401(k)
Upfront tax break No Contributions are deductible
Withdrawals Tax free Taxed as ordinary income
Contribution Limits $6,000, rising to $6,500 for 2023, with an additional $1,000 if you’re 50 or over. In 2022, $20,500 or $27,000 if you're 50 or over; in 2023, $22,500 or $30,000 if you're 50 or older.
Income Limits Yes; higher incomes reduce or eliminate contributions No
Employer Match No In 2021, $58,000 ($64,500 for 50 or over) limit on combined employer/employee contributions; $61,000 limit ($67,500 for 50 or over) in 2022
Automatic Payroll Deduction No Yes
Earliest age to withdraw funds without penalty Withdraw contributions at any time without penalty; earnings at 59½ 59½
RMDs Not during owner’s lifetime RMDs must start by April 1 following the later of the year you reach age 72 or the year you retire
Average Fees Low High
Investment choices Many Few
Maintained By Self Employer

Is It Better to Invest in a Roth IRA or a 401(k)

Both are great tax-advantaged savings options so invest in both if you can manage the contributions. However, if your employer offers a retirement plan at work (especially with matching contributions), be sure to enroll in that. Then you can decide to open a personal Roth IRA, based on how much you earn.

At What Age Does a Roth IRA Make Sense?

A Roth IRA makes sense at any age—early or even late in your career—so consider your retirement savings options and, if appropriate for your income and financial goals, open one as soon as possible. Think about whether you want to pay taxes when you're no longer working and may need all the income you can get.

What Are the Tax Advantages of Roth IRAs and 401(k)s?

Contributions to a 401(k) plan are tax deductible. Contributions to a Roth IRA are not. The money in both accounts grows without being diminished by taxes. You will pay taxes on amounts withdrawn from a 401(k) once you're retired. You pay no taxes on withdrawals from a Roth IRA.

The Bottom Line

In many cases, a Roth IRA can be a better choice than a 401(k) retirement plan, as it 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. However, if your income is too high to contribute to a Roth, your employer offers a match, and you want to stash more money away each year, a 401(k) is hard to beat.

A good strategy (if you can manage it) is to have both a Roth IRA and a 401(k). Invest in your 401(k) up to the matching limit, then fund a Roth up to the contribution limit. After that, any leftover funds can go toward your 401(k)’s contribution limit.

Still, everyone’s financial situation is different, so it pays to do your homework before making any decisions. When in doubt, speak with a qualified financial planner who can answer any questions and help you make the right choice for your situation.

Article Sources
Investopedia requires writers to use primary sources to support their work. These include white papers, government data, original reporting, and interviews with industry experts. We also reference original research from other reputable publishers where appropriate. You can learn more about the standards we follow in producing accurate, unbiased content in our editorial policy.
  1. Internal Revenue Service. "Publication 590-B, Distributions from Individual Retirement Accounts."

  2. Internal Revenue Service. "Roth IRAs."

  3. Internal Revenue Service. "Income Ranges for Determining IRA Eligibility Change for 2021."

  4. Internal Revenue Service. "2022 Limitations Adjusted as Provided in Section 415(d), etc."

  5. Internal Revenue Service. "Retirement Topics - IRA Contribution Limits."

  6. Internal Revenue Service. "401(k) Limit Increases to $22,500; IRA Limit Rises to $6,500."

  7. Internal Revenue Service. "Publication 590-B: Distributions from Individual Retirement Arrangements (IRAs)," Page 28.

  8. Internal Revenue Service. "Publication 590-B: Distributions From Individual Retirement Arrangements (IRAs)," Page 5.

  9. Cornell Law School, Legal Information Institute. "26 CFR Sec. 1.401(k)-1 - Certain cash or deferred arrangements."

  10. Internal Revenue Service. "401(k) Plans."

  11. Internal Revenue Service. "Roth Comparison Chart."

  12. Internal Revenue Service. "Retirement Topics: 401(k) and Profit-Sharing Plan Contribution Limits."

  13. Internal Revenue Service. "Retirement Topics — Required Minimum Distributions (RMDs)."

Take the Next Step to Invest
×
The offers that appear in this table are from partnerships from which Investopedia receives compensation. This compensation may impact how and where listings appear. Investopedia does not include all offers available in the marketplace.
Service
Name
Description