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401k vs. IRA

January 13, 2021

Have you ever wondered what the difference between a 401k and an IRA is? Are you unsure of which retirement plan best fits your needs? Maybe you opened an IRA because your previous employers did not offer 401k plans.

Regardless of your reasoning, there are benefits to both of these tax-advantaged accounts. Here are some factors to compare:

Annual Contributions: There are limits to the amount of money you can contribute to your retirement accounts each year. For an IRA, you can contribute up to $6,000 if you are under 50 and up to $7,000 if you are 50 or over. In a 401k plan, you can contribute up to $19,500 and an additional $6,500 if you are over 50. Your employer contributions do not count towards your yearly contribution limits. A 401k plan drafts money directly from your paycheck, before taxes, and grows tax-deferred. When opening an IRA, you have the option to open a Roth IRA (money is taxed when contributed) or a Traditional IRA (money is taxed when withdrawn).

Investment Options: With a 401k plan, the details are controlled by the plan sponsor (the employer), such as where the funds are deposited, which is typically a set of preselected mutual funds. There is also little control over the plan fees, risk level, investment selection, and more. With an IRA, the account owner has total control over the investment funds, risk level, diversification, etc.
Required Minimum Distributions (RMD): In a traditional IRA, you must take a distribution once you turn 72. In a Roth IRA, you are never required to take a distribution if you do not want to, as the RMD rules do not apply to Roth IRAs. However, in a 401k plan, if you are still working, you may not be required to take your RMD at 72. Talk to your financial professional or plan sponsor to see if you are eligible to delay your RMD from a 401k account.

Hardship Withdrawals: Should you have an emergency and need to withdraw funds from your retirement account, you may be subject to penalties and fees. 401k plans allow for withdrawals without penalties but are treated as taxable income. If you are over the age of 59 ½, you can withdraw from your IRA without penalties or additional fees. However, there are very few options to withdraw from your IRA before 59 ½, without triggering penalties and interest. Consult your financial professional to see if you are eligible for early withdrawals.

There are many avenues to invest in your retirement and future, but deciding which route is best for you is highly subjective. Whether to open an IRA or a 401k depends on your long-term retirement goals, investment objective, risk tolerance, and more. If your workplace offers a 401k plan, be sure to get all the relevant information about the plan design and related fees.

If you are still unsure which plan is best for you, contact us to decide whether a 401k or IRA will generate the income you need for retirement.