Dear Dr. Don,
I have a 401(k) plan through my employer, but should I also have an individual retirement account?
— Colleen Compounding
If your employer matches any part of your contributions, it’s always a good idea to contribute up to the limit of that match in a 401(k) plan. After that, it depends how much you like the plan’s investment options and the fees and other expenses in the account. Another question is whether you want diversification by making contributions to a Roth IRA that will be tax-free in retirement. Some employers offer a Roth 401(k) option within their plans, which also allows for tax diversification.
Tax diversification involves opting for retirement savings made with tax-deductible contributions that will be taxed as ordinary income when distributed out of the account. It also involves retirement savings made with after-tax contributions into a Roth IRA or Roth 401(k) with qualified tax-free distributions in retirement.
Depending on your income level, an employer-provided 401(k) plan may limit your ability to make tax-free contributions to a traditional IRA. The deduction phases out at higher income levels. A married person filing jointly covered by a retirement plan at work can make a full deduction if their modified adjusted gross income is $96,000 or less for the 2014 tax year. For a single person, the modified adjusted gross income number is $60,000. For more details, see IRS Publication 590, Individual Retirement Arrangements.
You can always make after-tax contributions to a traditional IRA, provided that you have enough taxable compensation. Married couples filing a joint return may use their combined total compensation to fund a spousal IRA, although it’s still governed by contribution limits.
IRAs have income limitations on who can contribute, including phaseouts at higher income levels. For the 2014 tax year, a married person filing jointly with a modified adjusted gross income of $181,000 or less may contribute up to the IRA contribution limits on that account. The contribution limit goes to zero above $191,000 in modified adjusted gross income.
Most people aren’t saving enough for retirement. I don’t know your specifics, but if you want to increase your savings by placing additional money in an IRA, that is probably a good thing as long as you are mindful of tax-related contribution limits.
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