Roth 401 K Plan or Regular 401 K Plan?
Q: I have the opportunity to invest in my company's 401 K plan. They have both a Roth 401 K plan and a regular 401 K plan. Which is best?
A: There is definitely a big difference between the two. It all comes down to taxes. With a regular 401 K plan, your money goes into it pre-tax. As a result, you get a tax deduction for the year. With a Roth 401 K plan, the money goes into the account after-tax. As a result you don't get a tax deduction for the year. Over time, both grow tax free meaning you don't pay any taxes for gains during your life time. It is when you start taking money out of the plan that you see the real difference.
Since you received the deduction for the contributions on the front end, you pay taxes on anything that comes out of the 401 K plan. With the Roth 401 K plan, you DON'T pay taxes on any of the money that comes out of the plan. So let's say you build up a $1,000,000 dollars. Would you rather have that come out tax free or would you rather pay taxes on it? In my personal opinion, the advantage of tax free income greatly outweighs getting tax deductions along the way. Thus, the Roth is the clear winner.
Now having said that, I don't think that you get the full advantage of the tax free income unless you can allow it to grow for 10 years before you need to access it. If you are older, you need to evaluate that aspect of it. However, if you are a younger investor, it is a no brainer. Of course, this argument also applies to the Roth IRA vs. IRA debate.