Individual retirement savings accounts IRA and 401(k) are the two major players in the industry. If you are thinking of saving up for retirement, these two will inevitably pop up. Choosing the right account will help you grow your savings faster, so you can retire comfortably.
This article highlights the difference between both options and how to know which is best for you.
First, let’s start with the definitions
What Is a 401(k) Plan?
A 401(k) is a defined employer-sponsored retirement account. It’s one of the popular retirement options offered by most employers across the US. Employees can make contributions to their accounts, and the employer can match either all or most of it.
Contributions to 401(k) accounts are not taxed until it’s been withdrawn, usually after retirement.
Employees are responsible for choosing the type of investment to make within their 410(k) account. You can contribute up to $19,000 in 2019.
What is an IRA?
IRA (Individual Retirement Account) allows you to contribute to your retirement without being sponsored by an employee. It offers tax-deferred growth on your investment. So you won’t owe tax until you withdraw the money, typically upon retiring.
There are two popular types of IRA accounts – a traditional IRA and Roth IRA. With Roth, your contributions are taxable, but your investment earnings are tax-free. The contribution limit for IRA in 2019 is $6,000.
IRA Vs. 401k – The Difference
401(k) and IRA offers tax benefits for individual contributions. However, both plans differ in various ways, as outlined below.
Eligibility To Participate
IRA – Anyone below the age of 70½ can have an account and contribute to a traditional IRA. Roth IRA, on the other hand, has no age limit.
401(k) – You can only contribute when employed, and your employee is offering 401(k) plans. The employee may set length of service limits, and other requirements employees must meet to participate.
Maximum Contributions
IRA -$6,000 limit for 2019. You will, however, be allowed to make a $1,000 catch-up contribution if aged50 or older.
401(k) – $19,000 for 2019. If you are aged 50 or older, then you will be allowed to contribute an additional $6,000. It allows employer’s contributions up to 25% of employees combined compensation and, limited to 100% of employees’ contribution up to $56,000.
Taxability
IRA -Your contributions are usually taxable so that you can enjoy tax-free investment earnings.
401(k) – Contributions and investment earnings are not taxed until withdrawn from the 401(k) account.
Investments options
IRA -An IRA account allows you to invest in a variety of ETFs, mutual funds, stocks, and bonds.
401(k) – You will have a variety of investment options. However, employers can limit your investment to preselected options.
Getting Started
IRA -You can open an account through any bank, insurance firm, investment company, or brokerage.
401(k) – You can be enrolled by your employer to ensure automated contributions to your retirement.
IRA vs. 401(k) – Which is right for you?
Choosing between an IRA and 401(k) is mostly dependent on your personal decision and situation. If your employer has a 401(k) account, then it’s a good idea to save up most of your retirement there, especially if there is a matching contribution.
If there’s no matching contribution, then consider going for an IRA with less expensive investment options.
Conclusion
It’s important to note that you don’t have to choose between a 401(k) and IRA. There’s no rule stopping you from having and contributing to both accounts.