- 1). Compare the eligibility requirements. To contribute to a 401k plan, your employer must offer the plan and you must be under 70 1/2 years old. To contribute to a Roth IRA, there are no age or employment restrictions, but your adjusted gross income (AGI) must be below the annual limits for your filing status. For 2010, the AGI limits are $120,000 for single filers, $10,000 for married couples filing separate returns and $177,000 for married couples filing a joint return.
- 2). Compare the tax benefits of contributing. Your contributions to a traditional 401k plan are made using pre-tax dollars, meaning you do not have to pay taxes on the income that you put into a traditional 401k plan. Your contributions to a Roth 401k plan are made using after-tax dollars, so you do not get a tax break for contributing.
- 3). Compare the tax benefits at retirement. Both accounts allow the earnings to grow tax-free while the money remains in the account. However, withdrawals from a traditional 401k plan are counted as taxable income while withdrawals from a Roth IRA are not taxed.
- 4). Compare the investment options. With a traditional 401k plan, you are limited to the investment options that your company offers. With a Roth IRA, the only investment restrictions are that you cannot invest in collectible items like stamps or paintings, and you cannot invest in something that personally benefits you, such as using your Roth IRA to buy the home you will live in.
- 5). Compare the contribution limits. Each year, the annual limits change based on inflation. For 2010, you can contribute $16,500 to a traditional 401k plan but only $5,000 to a Roth IRA. If you are age 50 or older, you can contribute a total of $22,000 to your traditional 401k and $6,000 to a Roth IRA.
- 6). Compare the qualified withdrawal requirements. For a traditional 401k, you must either be age 59 1/2 or be 55 or older when you leave your job. For Roth IRAs, you must be at least 59 1/2 and your account must have been open for at least five years.
- 7). Compare the required minimum distributions (RMDs). For a traditional 401k plan, you must start taking withdrawals when you turn 70 1/2. The size of the minimum required distribution is determined by the IRS life expectancy tables and the amount you have in your traditional 401k. The IRS does not require RMDs from Roth IRAs.
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