Retiring Rich: Understanding the Roth 401k

When it comes to saving for retirement, investing in your employer’s 401k plan offers attractive pre-tax benefits to employees. Over the years, companies have slowly added Roth 401k plans to the mix. Roth 401ks give employees the option to invest for retirement on an after-tax basis. In all, the plan gives workers the ability to make all or a portion of their 401k contributions to a Roth 401k. BlackEnterprise.com sat down with personal finance expert Eric Tyson to discuss the pros and cons of Roth 401ks along with rolling over your 401k investments. Tyson is the author of Mutual Funds for Dummies, Investing for Dummies, and Personal Finance for Dummies.

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BlackEnterprise.com: How does a Roth 401k work and what are its benefits?
Eric Tyson: Normally, when people put money into a 401k plan, it’s taken out of their paycheck, and that money’s not taxable so it saves people tax dollars immediately if they’re contributing to one. But there are also plans where the so-called “Roth” component enables you to put money away but you’re not getting a tax break on it. The main benefit of a Roth 401k is that it allows people to put away even more money inside of a tax sheltered account.

So what exactly is the draw for savers if they’re not getting the pre-tax benefit?
If you exhaust your contributions to a regular 401k plan, then you can do these after tax contributions [to the Roth 401k]. You’re not going to get the upfront tax break but the attraction is that once the money is inside the retirement account, all the investment earnings on those contributions are sheltered from taxation each year.

Let’s switch gears a bit and discuss rolling over a 401k. If you go to another job, can you roll over that 401k to another 401k?

Usually you can; if your next employer enables you to do that. You may or may not want to do it based on a number of considerations. First, see if your new employer offers a good plan. Does it have good investment options? If you roll it over yourself, into your own IRA, you can choose your own investments. You might be able to find better investment choices than what your new employer offers.

What should employees take into consideration before doing this?
That’s actually a lot less typical. Usually, if people leave a job, they either leave the money in that employer’s plan or they roll it over into their own account. It is not typical that people roll their money from one employer’s plan to another.

Is it better to keep the 401ks separate as opposed to rolling your old 401k into your new 401k?
I think if you know what you’re doing with regard to investments, it’s a reasonable thing to roll it over into your own account. A good reason to roll it over into another employer’s plan is that a person may feel uncomfortable choosing their own investment options.