Why the Roth 401(k) is the New Must-Have for Savvy Savers!

Attention, savvy retirement savers! It’s time to pay attention to an exciting trend: more employers are rolling out Roth savings options in their workplace 401(k) plans.

Thanks to a recent legislative shift, it’s expected that even those employers who have been hesitant will soon jump on the bandwagon.

In fact, approximately 93% of 401(k) plans offered a Roth account in 2023! That’s a significant leap from 89% in 2022 and a staggering rise from just 62% a decade ago, based on a comprehensive survey of over 700 employers.

So, what’s the difference? It all boils down to how your retirement savings get taxed.

With a Roth account, you pay taxes upfront on your contributions. The golden part? When it’s time to withdraw your money, you won’t owe any tax — with some exceptions, of course. It’s like having your cake and eating it too!

In contrast, the traditional pretax savings route gives you an immediate tax break. You defer taxes until you withdraw, which can be tempting, but it might not always be the best option.

Surprisingly, many folks are still missing out on the Roth advantage. In 2023, only about 21% of eligible workers contributed to a Roth, compared to 74% who opted for pretax contributions. That’s a missed opportunity!

Deciding between Roth and pretax contributions hinges on your current tax bracket and your expectations for the future. It’s all about keeping your tax bill as low as possible — think of it as a strategic tax bet.

This may require some foresight. Financial experts often recommend Roth accounts for young professionals just starting out. Why? Because you’re likely in a lower tax bracket now, and it’s a golden time to lock in those lower rates.

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“We always suggest [Roth] for younger employees,” shares a leading retirement plans consultant. “This is the lowest tax bracket you’ll likely ever face. Why not take advantage of it now?”

A Roth 401(k) also opens doors that a standard Roth IRA doesn’t. Roth IRAs have lower contribution limits and income caps, but a Roth 401(k) allows higher earners to tap into Roth benefits without restrictions. Plus, it lets everyone contribute more! How’s that for a win-win?

Many financial planners advocate diversifying your savings between pretax and Roth accounts for maximum flexibility in retirement. It can provide a significant advantage when managing your income, especially concerning Medicare premiums, which can skyrocket with higher income levels. Roth withdrawals won’t count against your taxable income, giving you a crucial edge.

And while it’s common to assume your tax rates will drop in retirement, that’s not always the reality.

More savers will soon find Roth 401(k) options available to them! Thanks to the Secure 2.0 retirement law enacted in 2022, “catch-up” contributions for those earning more than $145,000 (adjusted for inflation) will have to be funneled into Roth accounts beginning in 2026.

This means that high earners aged 50 and above will need to direct any excess savings over the annual limit into Roth accounts, prompting most 401(k) plans to offer Roth options.

For 2024, workers can contribute up to $23,000 to their 401(k), with an additional $7,500 available for those 50 and older in catch-up contributions.

“Offering Roth options has become a best practice, and with new mandates for high earners, we’re set to see Roth accounts become the norm,” explains a research director from a prominent employer group.

Furthermore, Secure 2.0 permits companies to make employer contributions to Roth savings—about 13% of employers are already committed to offering this option, with another 35% considering it.