401(k) vs. IRA: The Basics

Saving for retirement can be scary with so many different options. You want to choose the best option for you and what will help you save the most money to live off of when you are ready to retire. The two main options are IRAs and 401(k)s. Both have tax benefits and can help you save well for retirement. Keep reading to figure out which retirement savings account is best for you!

What is a 401(K)?

A 401(K) is a retirement savings account for an employee to directly contribute part of their salary into an investment account. Most employers who offer 401(K)s also offer matching, meaning if you put in the maximum contribution, your employer will put in the same amount of money into the account. The money in the account will be invested in different types of mutual funds. If offered by your employer, you can also enroll in a Roth 401(k).

What is an IRA?

IRA stands for “individual retirement account.” The two main types are traditional and Roth. With a traditional IRA, you can make contributions that you may be able to deduct on your tax return and can grow tax-deferred. For a Roth IRA, you make contributions with money you have already paid taxes on and your money can grow tax-free.

How do you get a 401(K) and an IRA?

Employers offer 401(K) accounts to employees while individuals must open IRA accounts through a bank or broker. IRAs offer more investment opportunities but 401(K)s offer higher yearly contributions, so it is a trade-off of how your money is saved. Since IRAs are not through employers, there is not a matching option.

Contribution Limits

For a 401(K) in 2020 and 2021, you are allowed to contribute $19,500 but if you are 50 years old or older, you can contribute $26,000. The contribution limit for both a traditional and Roth IRA combined is $6,000 in 2020 and 2021, but if you are 50 years old or older, you can contribute $7,000.

Effects on Taxes

Your contributions made into your 401(K) can lower your taxable income for the year you made the contribution, so it is recommended to max out how much you can put into the account. If your traditional IRA contributions can be deducted, they could also reduce your taxable income. Roth IRAs do not offer tax deductions, but qualified withdrawals are tax-free.

Which should I pick?

Both accounts are great retirement savings options. If your employer offers 401(K) matching, take advantage of it! You will be able to grow your retirement savings much quicker with your employer also contributing. If your employer does not offer 401(K) matching, fund an IRA, whether it is traditional or Roth. 

If you have any questions, please reach out to us at Total Clarity Wealth Management. We are happy to help you maximize your retirement savings.

Source: https://www.nerdwallet.com/article/investing/ira-vs-401k-retirement-accounts

Content is this material is for general information only and not intended to provide specific advice or recommendations for any individual. No strategy assures success or protects against loss. Investing involves risk including loss of principal.

A Roth IRA offers tax deferral on any earnings in the account. Withdrawals of earnings prior to age 59 ½ or prior to the account being opened for 5 years, whichever is later, may result in a 10% IRS penalty tax. Limitations and restrictions may apply.

Contributions to a traditional IRA will have current income tax due at withdrawal. Withdrawals prior to age 59 ½ may result in a 10% IRS tax penalty in addition to current income tax.

Securities offered through LPL Financial, Member FINRA/SIPC. Investment advice offered through Total Clarity Wealth Management, Inc., a registered investment advisor and separate entity from LPL Financial.

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