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Does Your 401(k) Plan Have a Roth Feature?

I know what you might be thinking.

“Roth 401(k)—what on earth is that?”

“I thought it was Roth IRA? Is this something better?”

As a plan sponsor, you should regularly review the options your plan provides to participants. Most participants are unaware of new developments in 401(k) plan design, and depend on their employer to keep them up to date. The advent of tax-free growth in a 401(k) plan is relatively new, but by offering it in your company’s plan, you may very well solve a big retirement plan question facing many of your participants. For both higher earning employees and younger ones—this could be just what they’re looking for.

Most investors will be familiar with the Roth IRA, a type of retirement savings account available to those whose income falls within certain limits. For single filers in 2017, the income threshold starts at $118,000, and then caps at $133,000. If your income falls within these limits, you can contribute up to $5,500 into your Roth IRA each year. If you are married filing jointly, your limits for 2017 are between $186,000 and $196,000. If your income exceeds these limits, you are ineligible (but may of course still contribute to a traditional IRA).

The advantageous feature of the Roth IRA is that your investments within the Roth accumulate state and federal income tax-free. Many investors who do not meet the income limits—but still want a Roth IRA for this tax-free accumulation—have been going through a very convoluted process of investing in a regular non-deductible IRA, and then quickly converting it to a Roth. Yes, there is a process in place to do this—and my advice is to speak with a tax expert before you go about it.

But what is a Roth 401(k)? It’s a much better solution for those who want the tax-free benefits of  Roth investments, but fail the income tests. If your plan includes a Roth feature, then you have the best of both worlds. How?

Simply put, a Roth 401(k) has no income limitations, which means every participant is eligible. Using the above example of a single filer with income exceeding $133,000, he or she can make payroll contributions into the Roth 401(k) of up to $18,000/year if under age 50, and $24,000 if age 50 or above. This is certainly much better than being subject to a limit of $5,500 in a Roth IRA. In addition, your contributions accrue free of both state and federal income taxes—in the exact same investment you presently have in your 401(k). Plus, if your plan includes an employer match—guess what? Participants still qualify.

No more complicated process or limits on earned income holding you back, and you get to contribute more than three times the Roth IRA limit. Doesn’t that sound much better?

If your plan doesn’t have this feature, and you’d like to know more, contact me here.

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