While there are many ways to build your retirement savings so that you can have the post-career life you imagined, two accounts are designed to help you with this goal: an individual retirement account (IRA) and a 401(k).
Each of these savings plans have unique tax considerations, strengths and limitations. Understanding the IRA vs. 401(k) tradeoffs can help you determine which works best for you and which one will allow you to pursue your retirement goals, such as spending more time with family, supporting your community and donating to charities.
To supercharge your savings even more, you can use both types of accounts. In fact, Thrivent's Retirement Readiness Survey* found that among those nearing retirement, 42% intend to rely on a mix of assets such as a 401(k), IRA, personal savings, and Social Security benefits.
In this article, we'll cover:
What is an IRA? What is a 401(k) The primary differences between an IRA & 401(k) IRA vs 401(k) at a glance Is it better to contribute to a 401(k) or IRA?
What is an IRA?
How does a traditional IRA differ from a Roth IRA?
Traditional IRA is taxed later
A
This option may be beneficial if you believe you are currently in your peak earning years and believe you may be in the same or a lower tax bracket in retirement.
Roth IRA is taxed now
A
A Roth IRA may be advantageous if you believe you are not in your peak earning years and think you may be in a higher tax bracket in retirement.
What is a 401(k)?
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When you sign up to participate in a 401(k), you opt to have a specific percentage of your paycheck automatically directed into the plan. Your employer has the option to
How does a traditional 401(k) differ from a Roth 401(k)?
Many employers have begun offering
Additionally, your earnings from a Roth 401(k) will grow tax-free, and if you are making a qualified distribution, you never will pay taxes on those.2
How to invest for retirement
What are the differences between an IRA & 401(k)?
Though they are both accounts to help save for retirement, IRAs and 401(k)s differ in seven primary ways:
1. How you access them
IRA are self-directed
If you want to open an IRA, you work directly with a financial institution that offers them, such as a brokerage firm or a bank.
401(k)s are offered through employers only
You only can access a 401(k) through an employer that offers one as a benefit. You then fund it by making contributions through payroll deductions.
2. Eligibility requirements
IRAs require earned income; Roth IRAs have income limits
To contribute to an IRA, you or your spouse must have earned income. This includes wages, salaries, tips, bonuses, commissions and earnings from self-employment. However, Roth IRAs have income limits to participate.
2023 & 2024 Roth IRA income limits to participate
If you make between the maximum modified adjusted gross income (MAGI) listed, you can contribute to a Roth IRA but it will be a reduced amount. If you make equal to or more than the maximum limit listed, you can't contribute anything to a Roth IRA.
Filing status | 2023 maximum modified adjusted gross income (MAGI) to contribute to a Roth IRA | 2024 maximum modified adjusted gross income (MAGI) to contribute to a Roth IRA |
Single or head of household | $138,000-$153,000 | $146,000-$161,000 |
Married filing jointly | $218,000-$228,000 | $230,00-$240,000 |
Married filing separately | $0-$10,000 | $0-$10,000 |
401(k)s require employment
You must be working at a company to contribute to a 401(k). Some employers allow new hires to enroll in their plan immediately, but others may require employees to wait up to a year to participate.
3. Contribution limits
The IRS sets contribution limits for retirement plans each year. And, as an additional boost for people age 50 or older,
IRAs have much lower contributions limits than 401(k)s.
IRA contribution limits for 2023 & 2024
- 2023 contribution limit: $6,700
- 2024 contribution limit: $7,000
- Catch-up contribution limit: $1,000
401(k) contribution limits for 2023 & 2024
- 2023 contribution limit: $22,500
- 2024 contribution limit: $23,000
- Catch-up contribution limit: $7,500
4. Investment options
While both IRAs and 401(k)s offer professional investment options, IRAs often have greater flexibility.
IRAs have a greater breadth of investment options
An IRA portfolio can include a variety of investments, like
Most IRAs allow you to choose your investment options, or you can leave the decisions to a professional at the financial institution you choose.
401(k) typically come with pre-selected investments
Portfolio options for a 401(k) generally are limited to the investments the plan provider chooses. These commonly include
5. Option to take loans
Some retirement plans offer loans that account owners can pay back over time.
IRAs don't allow loans
The option to borrow funds and then pay back is not available for IRAs.
401(k)s typically allow loans
Some providers allow 401(k) participants to borrow from their plans, though before doing so consider the full list of benefits and drawbacks:
6. Distribution rules & requirements
Distribution rules of IRAs and 401(k)s are dependent on if you have a traditional or Roth version:
Traditional IRAs
- You can withdraw penalty-free as early as age 59½, with your withdrawals taxed at your current income.
- If you withdraw funds before 59½, you may face a 10% penalty unless you qualify for an exception. Exceptions include to pay health insurance premiums after a job loss, to purchase a first home, to help pay for the birth or adoption of a child, and to help pay qualified education costs for you or a family member. You can view the full list
here .
401(k)s
- You can withdraw penalty-free at age 59½, if you leave your job, or experience a disability. Your withdrawals will be taxed at your current income.
- If you withdraw funds before 59½, you may face a 10% penalty unless you qualify for an
exception .
Roth IRAs & Roth 401(k)s
For both a Roth IRA and a Roth 401(k), withdrawals of contributions are tax and penalty-free at any time. Earnings are tax-free and penalty-free if the account is at least
- You're at least age 59½.
- You're disabled.
- The money is being paid to a beneficiary.
- Up to $10,000 for a first-time home purchase
A Roth 401(k) also offers this perk:
- You can take a partial distribution that draws from both your contributions and earnings (prorated), unlike a Roth IRA, which draws from your contributions first.
7. Required minimum distributions (RMDs)
An
Traditional IRAs & 401(k)s have RMDs
Traditional IRAs and 401(k)s will require you to take RMDs and pay taxes on the distribution.
- If you turn 73 before 2033, your RMD age will be 73.
- If you turn 74 after 2032, your RMD age will be 75.
If you're still working at your RMD age and your plan allows it, you may be able to delay taking RMDs. The IRS
Roth accounts do not have RMDs
Roth IRAs do not have RMDs for the IRA account owner, although beneficiaries of a Roth IRA may have specific distribution requirements.
Starting in 2024, there will be no RMD requirement for Roth 401(k)s. Prior to that, these accounts had the same RMD requirement of traditional 401(k)s.
IRA vs 401(k) at a glance
| Traditional IRA | Roth IRA | 401(k) | Roth 401(k) |
How it's offered | Through financial institutions | Through financial institutions | Through an employer | Through an employer |
Contribution limit | 2023: $6,500; | 2023: $6,500; | 2023: $22,500; | 2023: $22,500; |
Catch-up contribution limit | $1,000 | $1,000 | $7,500 | $7,500 |
Employer match available? | No | No | Yes, typically | Yes, typically |
Income limit to participate? | No | Yes | No | No |
Tax-deductible? | Yes, though deduction may phase out if you or a spouse are covered by a workplace plan | No | No | No |
Loans available? | No | No | Yes, typically | Yes, typically |
Taxation of withdrawals | Taxed as ordinary income | Withdrawals of contributions are tax-free; qualified withdrawals of earnings are never taxed if certain requirements are met | Taxed as ordinary income | Withdrawals of contributions are tax-free; qualified withdrawals of earnings are never taxed if certain requirements are met |
Required minimum distributions (RMDs) | Required between ages 73-75, depending on your birth year | No RMD requirement | Required between ages 73-75, depending on your birth year | No RMD requirements starting in 2024 |
Is it better to contribute to a 401(k) or IRA?
The answer depends on your financial goals and personal variables, like your age, work status and investment horizon. For example, if you work for a company that offers a 401(k) match, you could earn essentially free money by contributing to a 401(k). Now, if you've changed jobs where you had a 401(k), you may want to consider
Remember that
The ins and outs of retirement accounts can be a lot to sort through. For personalized guidance, insight into different savings strategies and setting yourself up for the retirement you envision,