Pre-tax vs. Roth 401(k)? How to decide which option is best
Pre-tax vs. Roth 401(k)? How to decide which option is best

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If you have a 401(k) plan, one of the biggest questions is whether to make pretax or Roth contributions, and the answer can be complicated, experts say.

While pre-tax 401(k) contributions reduce your adjusted gross income, you’re taxed on the growth when you withdraw them. By contrast, Roth 401(k) deposits don’t provide an upfront tax deduction, but the money can grow tax-free.

About 80% of employer retirement plans will offer Roth contributions in 2022, up from 71% in 2018, according to a recent report pioneer report Based on approximately 1,700 retirement plans.

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While current and future tax brackets are one piece of the puzzle, experts say there are other factors to consider.

“Broadly speaking, it’s hard because there are so many factors to consider in making that decision,” said Ashton Lawrence, a certified financial planner with Mariner Wealth Advisors in Greenville, South Carolina.

Here’s how to determine which 401(k) plan is best for you.

Current and future tax brackets

One of the important questions to consider is whether you want to retire in a higher or lower tax bracket, experts say.

In general, pre-tax contributions are better for higher earners because of the upfront tax deduction, Lawrence said. But if you’re in a lower tax bracket, it might make sense to pay your taxes with a Roth deposit now.

If you’re at 22% or 24% or lower, I think a Roth contribution would make sense, assuming you’ll be at a higher level in retirement.

Lawrence Pang

Pon & Associates CPA

Lawrence Pon, CFP and CPA of Pon & Associates in Redwood City, Calif., explains that Roth 401(k) contributions are often beneficial for younger workers looking to earn more later in their careers.

“If you’re at 22% or 24% or lower, I think a Roth contribution would make sense, assuming you’ll be at a higher level when you retire,” he said.

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While Roth’s contributions are “as a matter of course” for younger low-income earners, she said the current tax environment also makes those deposits more attractive to higher-income clients.

“Some of my clients can make $22,500 in three years,” Valega said. “It’s a pretty nice change and it’s tax-free.”

Additionally, recent Secure 2.0 changes have made Roth 401(k) contributions more attractive to some investors, she said. Plans can now offer Roth employer matches, and Roth 401(k)s no longer require minimum distributions. Of course, plans may vary depending on the features an employer chooses to employ.

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Withdrawal schedules are now “tighter, which could affect beneficiaries, especially if they’re at their peak income,” Lawrence said.

However, Roth IRAs can be “a better estate planning tool” than traditional pretax accounts because non-spousal beneficiaries don’t pay taxes on withdrawals, he said.

“Everyone has their preferences,” Lawrence added. “We’re just trying to provide the best options for what they want to achieve.”


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