Understanding Roth & After-Tax 401(k) Contributions

Understanding Roth & After-Tax 401(k) Contributions

What Is a Roth 401(k)?

A Roth 401(k) retirement plan is an important benefit that can help your company attract and maintain top talent. With these plans, workers can make contributions to their employer-sponsored 401(k)s on an after-tax basis. This means the government takes tax out of their payments before they’re put into their account.
After tax 401(k)So, why do employees like Roth 401(k) plans? It’s because their future withdrawals, including earnings from interest, dividends and capital gains, are tax free. Once they turn 59½, these contributions become qualified distributions. So they can take money from their account without paying taxes on it. 
If you match your employees’ contributions into a Roth, you’ll want to make sure they know the government will tax this portion when it’s withdrawn. You’ll also want to mention that their withdrawals won’t impact their Social Security benefits. Roth plans are subject to contribution limits, and, in 2020, the maximum is $19,500.2

What Is the Difference Between a Traditional 401(k) and Roth 401(k)?

Roth vs After TaxBoth you and your employees can make pre-tax 401(k) contributions to a traditional 401(k) account. This means your workers will pay taxes at a later date.
To better see comparisons between a traditional 401(k) and a Roth 401(k), take a look at this chart:
Traditional 401(k) Roth 401(k)
Employee Contributions Your employees can make pre-tax contributions with this plan. This means they’ll pay taxes when they withdraw their retirement savings later. Your employees can make Roth deferrals. This means their contributions were already taxed, so they don’t have to pay income taxes when they withdraw the funds later.
Accesibilidad Your employees can withdraw their funds once they’re 59½ years old. Your employees can withdraw their earnings if they’re 59½ and have held the account for at least five years.
Contribution Limits In 2020, the maximum contribution is $19,500. If employees are 50 and older, they can make “catch-up,” or extra contributions, up to $6,500. In 2020, the maximum contribution is $19,500. If employees are 50 and older, they can make “catch-up,” or extra contributions, up to $6,500.
Rollover Contributions can be rolled over to a traditional IRA or Roth IRA. Contributions can be rolled over to an existing Roth IRA.

What Is the Difference Between Roth vs After-Tax Contributions?

When it comes to Roth, after-tax and pre-tax contributions, it’s important you understand the differences. Your employees’ Roth deferrals are not taxed again if they’re withdrawn in retirement. Other after-tax contributions are the same as taxable income. This means the government will treat these funds as ordinary income and can collect tax money when they’re taken out in future.
Be sure you know the details of the 401(k) plans that your company offers. For instance, there are differences between a Roth 401(k) and a Safe Harbor 401(k).

Pros and Cons of Offering Roth & After-Tax 401(k) Options

Roth After TaxThere are major benefits of a Roth 401(k) and other after-tax 401(k) options. They not only offer flexible retirement plans to your employees, but can offer some business tax advantages to you. But, as good as they are, there are some drawbacks to offering Roth plans. For example, the set up for tracking systems can be complex and expensive.

Should You Offer Roth & After-Tax 401(k) Contributions to Your Employees?

You’re not required to offer contributions to a 401(k) for employees. However, 7 out of 10 businesses do offer at least a Roth 401(k).1 And offering Roth benefits for your growing business can be essential for retaining good employees.
What Is a Roth 401(k)Before you offer this kind of retirement plan, you’ll want to ask yourself some questions like:
What does the retirement plan cost? Be aware of the fees you’ll need to pay for the plans you offer.
Which provider is right for you? You’ll want a provider that offers a help desk and online tools so your employees have someone to contact with questions. 
Have you and your provider thought about the size of your company? A company with 200 employees will have different needs than a company with 20.
Does your provider have the right security measures? You’ll want to make sure your employees’ information is safe and not shared with third parties.
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Game Plan

  • An overview of the Roth 401(k) can be found aquí.
  • For more on qualified plan annual contribution limits, see this article.
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