The Roth 401(K) is a company- and employer-sponsored retirement savings plan that has no income restrictions. It allows workers to contribute a designated amount from their pay and store in the retirement plan account while earning tax-deferred interest.
The investments in the plan vary but usually include mutual funds. Some employers make profit-sharing contributions into the plan and may, as an incentive, match the employee's contribution. Roth 401(K) accounts are subject to the same contribution limits as a traditional 401(K)s. The 401(K) individual contribution limit for the calendar year 2018 will be $18,500. Participants who reach qualifying age of 50 by the end of the year may contribute an additional "catch-up" contribution of up to $6,000. The tax deferral feature gives individuals the opportunity to save more additional tax-free income. For those who anticipate their tax rate to remain constant or increase in retirement, a Roth 401(K) is an ideal option. Even though the plan is sponsored by an employer or organization, the administration and monitoring of the accounts are contracted out to outside agencies.
Tax-deferred growth is an attractive feature of the traditional 401(K), however, participants of the Roth 401(K) pay their taxes up front. There are no special requirements to get into a plan of this type. The Roth 401(K) is similar to the traditional to Roth IRA in that in order for investors to enjoy tax-free withdrawal, they must have held the account for five years. In addition to the age requirements, there is a 10% early withdrawal penalty. To avoid the penalty, funds must be withdrawn when employment is terminated or when the age of 59 1/2 is reached. This savings plan is attractive to workers in lower tax brackets because their incomes are likely to increase as their careers blossom, which will result in being classified in a higher tax bracket. Additionally, anyone looking to shelter their investments in order to leave money to their heirs should consider the plan. If the contributed funds are not needed during retirement, the account can continue to grow tax-free until the participant's death. This feature makes it an appealing addition to a life insurance policy.
Continued 401(k) Definitions