In a recent discussion I had with some friends, someone asked, “Which has the greatest return – an IRA, a Roth IRA, a 401(k) or a Roth 401(k)?”
I’m happy to know my friends are taking a more active role in retirement planning, but this particular question doesn’t have an answer. And here’s why:
IRA, Roth IRA, 401(k) and Roth 401(k) refer to the IRS rules. These IRS terms help define which kind of contributions and taxes apply to an account. The account type doesn’t have any bearing on the rate-of-return your account achieves. Your returns are entirely dependent upon the performance of the investments you hold in your account.
You can think about it this way: There are three buckets – one is blue, one is red and one is green. Which color of bucket is the heaviest? As with any of the retirement accounts, the answer is it depends on how much you put in and what you put in.
The difference between a traditional account and a Roth account is how they’re taxed, whether you’re talking about an IRA or a 401(k). Traditional contributions are tax deductible, but retirees will need to pay regular income taxes on distributions. Roth contributions are made after-tax, but distributions aren’t subject to income taxes.
Accounts titled IRA and Roth IRA are Individual Retirement Accounts. Anyone with earned income can establish one at almost any financial institution. Both are created and maintained by an individual rather than being part of a larger employer-sponsored plan. Investors can hold most securities in an IRA – whether it’s traditional or Roth. So you could invest in mutual funds, individual stocks and bonds, CDs, RIETs, ETFs or even gold coins. The return on your investments is based entirely upon the investments you chose, not the bucket that holds them.
Accounts titled 401(k) and Roth 401(k) are employer-sponsored accounts, which means you can only contribute to one if you’re employed someplace that offers this benefit. Unlike IRAs, you cannot invest in nearly any security. Instead, you’re limited to the investment options your employer provides through the 401(k) plan.
We recommend that you start contributing to your employer’s 401(k) plan if you have one at work. It’s simple to get started, and your employer may match your contributions. Unlike IRAs, there are no income limits. If your employer doesn’t offer a 401(k), focus your attention on an IRA.
To determine which investments are right for your account check out our asset allocation tool or contact the Smart401k adviser team.
If you have any questions about your investment options, contact our adviser team at 877-627-8401 or at email@example.com.
Charlie Koch, MBA, CFP®, CFS®
Smart401k Senior Investment Adviser
*Nothing in this article should be construed as tax advice. Contact a qualified tax professional to discuss any tax matters relating to your retirement plan investment options.
Smart401k is a web-based investment adviser providing unbiased advice to help employees invest in their employer-sponsored retirement plans. Smart401k provides service to almost 11,000 clients who collectively have more than $1.5 billion in assets. Individuals receive personalized investment recommendations based on the funds in their plan and support of professional investment advisers available to answer all investment questions. Based in Overland Park, KS, Smart401k can be found at www.smart401k.com.