The Roth 401k was made permanent with the passing of the Pension Protection Act of 2006 last year, though it has been around since 2001, and it does for 401k plans what the Roth IRA did for Traditional IRA plans – it created a vehicle for folks to save after-tax dollars and allow it to grow tax free. With a Roth IRA, you contribute after-tax dollars and the earnings and dividends and everything grow tax free – when you begin taking withdrawals from the Roth IRA near retirement, you will not pay any income taxes on them because you’ve already paid for it. With the Roth 401k, you basically operate under the same premise.
There are some huge differences between Roth IRAs and Roth 401ks:
- The Roth 401k has no income limit! Whereas contribution amounts phase out starting at 99k (for 2007) for Roth IRAs, there is no such limit for Roth 401ks.
- Since the Roth 401k is a 401k plan, it’s subject to those limits – $15,500 for 2007. So, you can contribute a total of $15,500 to a regular 401k and a Roth 401k total.
- Roth 401k’s follow the early withdrawal rules of 401k’s, so there are penalties and such. For example, with a Roth IRA, you can withdraw your contributions at any time with no penalty, but not so with Roth 401k’s. You will be penalized if you withdraw your Roth 401k contributions before retirement age.
Lastly, if and when you do leave your job and contemplate rolling over your Roth 401k, it would go to a Roth IRA – just as how a regular 401k rolls into a regular IRA.