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Roth 401(k) plans take off

After a jerky start, the Roth 401(k), the new kid on the block when it comes to retirement savings vehicles, is quickly gaining speed as one of the most tax-efficient products on the market today.

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Like its cousin the Roth IRA, the Roth 401(k) enables you to pay taxes at today's rate on the money you tuck away so you can withdraw it tax-free once you reach age 59½ and have held the account for five years. Traditional IRAs and 401(k) plans, by contrast, tax you when you take the money out, but allow you to deduct your contributions on your federal income tax. Participants in 403(b) plans may similarly have a Roth 403(b) available. Employer-match contributions remain in the traditional 401(k) however.


Roth 401(k) plans
What they are:
Why they're popular:
How to choose:
When to tap them:
Who they benefit:

This year, the 401(k) contribution limit is $15,500; if you're 50 or over, your cap is $20,500. That cap applies to your combined 401(k) and Roth 401(k); if you evenly split your 401(k) contributions, you would put $7,750 into each, or $10,250 each under the catch-up provision.

Diversification tool
If you have a regular 401(k) or a Roth IRA, you can add a Roth 401(k) to further diversify your nest egg. After all, since no one can accurately predict what tax rates will be when we retire, it may be wise to have a mix of pre- and post-tax dollars available when you need them. Down the road, you can even roll the Roth portion of your 401(k) into a Roth IRA to avoid the mandatory 401(k) distribution requirements that kicks in at age 70½. That makes it a handy way to pass on a tax-free inheritance to your heirs.

Congress paved the way for the Roth 401(k) in 2001 with passage of the Economic Growth and Tax Relief Reconciliation Act. Although some plan providers began offering the Roth 401(k) in January 2006, its growth was impeded by a sunset provision in the bill that would have ended the program in 2010. Congress removed that obstacle and granted permanency to the Roth 401(k) with passage of the Pension Protection Act last August.

 
 
Next: "Are you Roth 401(k) material?"
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