We often ask financial planners if we should focus on our 401k or Roth IRA for our retirement savings. The answer is consistently both. They're working together to help you meet your retirement goals. It's definitely not a choice of one over the other but rather utilizing the two to maximize your retirement planning.
Some of the benefits of the 401k not available to the Roth IRA include:
Some of the benefits of the Roth IRA not available to the 401k include:
In 2007, the 401k maximum is $15,500 for those under 50 and $20,500 for those over 50. Your company will often dictate the maximum percentage you can contribute from your paycheck to the plan. They do this to avoid paying out too much in matching contributions. They will often match your contribution to a certain maximum amount.
So let's say you have an annual pre-tax salary of $40,000 and your company allows you to contribute a maximum of 5 percent of your salary to your 401k; your contribution would be $2,000. The company then matches every dollar you contribute with fifty cents of its own, or $1,000. That's a total of $3,000 that will go into your 401k. This lowers your taxable income by the same amount, allowing the funds to grow tax-free.
Continuing with this example, let's say you've maximized your 401k contribution, including the matching funds from your employer. Now you'll want to look at maximizing your Roth IRA contribution if you have the money to do so. Since you are under 50, you're allowed a $4,000 maximum. Since these contributions don't carry forward when unused, it makes sense to put the full amount into your plan every year with few exceptions. This increases the total contributions to your retirement plans to $7,000, or 17½ percent of your annual salary. That's a significant amount for most people, but if you can make it happen you should.
However, if you can only do one, you'll want to take care of the 401k because of the matching dollars provided by your employer. Any time your employer is willing to give you extra compensation beyond your salary, it's something you should gladly accept. The important thing is to try to maximize both every year until your retirement. That's the way to get ahead and stay ahead.