Is There a Big Difference Between 401(k) and IRA?

One difference between 401(k) and IRA is the role an employer plays in each type of retirement savings plan.

A side-by-side comparison of two popular retirement savings plans.

The difference between 401(k) and IRA retirement savings plans is more than a few shades of gray, and many people get them confused. So which should you use? We’re comparing these two most popular ways to save for retirement in the post-pension era so you can determine the best savings strategy for you.

Most people know that IRA stands for individual retirement account. Fewer know that 401(k) retirement savings plans are named for the section of the tax code that governs them. Funny how their names reveal little about what they actually do, right? Here’s a side-by-side look at the difference between 401(k) and IRA savings plans:

 

IRA 401(k)
Who can participate?

Any income-earner under the age of 70 ½ (traditional IRA), and most income-earners of any age (Roth IRA)

Anyone whose employer offers it as a benefit
When/how are you taxed?

Money put into a traditional IRA is invested pre-tax (so you’ll be taxed on it when you take distributions)

Money put into a Roth IRA is invested post-tax (so you get tax-free growth on your investment)

All money is invested pre-tax (so you’ll be taxed on the distributions whenever you take them during retirement)
When can you start contributing? Any time of your choosing – the earlier, the better

Check your employment policies – as a benefit, your employer

can place restrictions on who can participate and when

What’s your employer’s role? None –
an IRA is yours and yours alone

An employer may choose to automatically enroll employees upon reaching a certain milestone (e.g., one year of employment), match your contribution or a percentage of it, and/or automatically increase their contribution at certain milestones

How is the money invested?

IRA contributions can be put into virtually any securities investment – partnering with a trustworthy financial advisor is helpful here

401(k) contributions are usually invested in mutual funds, and you normally have a limited array to choose from based on your employer’s plan

When can you start taking penalty-free distributions?

After 59 ½, but

  • You may withdraw the exact amount of your Roth IRA contributions (not the earnings on them) at any time
  • There are special exemptions for a first-time home purchase, college expenses, and certain medical/disability expenses

After 59 ½, unless

  • Your employer places additional restrictions (though this applies only to distributions taken while you’re still working)
  • You are totally and permanently disabled or convert your 401(k) to an IRA

 

This side-by-side comparison doesn’t show every difference between 401(k) and IRA savings, just the big ones that make it easier to see the path that’s right for you. Whether there’s a yacht or rocking chair in your retirement dreams, some combination of these savings vehicles is your best bet for getting there. For personalized advice about these and other retirement savings plans, contact our financial advisors at Googins today for a straightforward approach to saving for your future.

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