Transcripts

"Money File"-How Roth 401K Pays Off

SUSIE GHARIB:In the money file tonight the benefits of a Roth 401k. Here's Terri Cullen, personal finance columnist at the "Wall Street Journal" online.

TERRI CULLEN, COLUMNIST, WALL STREET JOURNAL ONLINE: Employers have been slow to adopt Roth 401(k)s for their company retirement plans because the rules governing these accounts were a bit murky. But that's likely to change now, after the Department of Treasury came out this past week with new rules to clear up some of the uncertainties. The government's new rules detail how the plans should operate and give clearer guidance on taxes. That's good news for employees.

A Roth 401(k) blends the tax benefits of a traditional 401(k) and a Roth IRA. Employees pay taxes on their contributions to the Roth 401(k) accounts upfront and when they take the cash in retirement, they pay no taxes on the earnings. There are some restrictions. You must be at least 59 1/2 to qualify for the tax-free withdrawals and you must have contributed to the account for at least five years. Is a Roth 401(k) right for you? Hands down a Roth 401(k) beats a traditional 401(k) if you're a younger worker, because you'll have many years to accumulate tax-free earnings. And it's also more beneficial to contribute to a Roth 401(k) instead of a traditional 401(k) if it's likely your income tax wont be substantially lower than it is now when you retire.

With a traditional 401k, your contributions are tax free up front, but your withdrawals in retirement are taxed at your personal income tax rate. No matter which account you choose, be sure to contribute at least as much to get your employers matching contribution. By saving enough to meet your employer match, you're doubling your money up front. Whether you're taxed on the money now or later, that's one investment that's hard to beat. I'm Terri Cullen.