401(k) vs Roth 401(k): Which Should You Choose?
Traditional and Roth 401(k)s differ in exactly one way that matters: when you pay tax. The right choice depends on your tax rate now versus your tax rate in retirement.
Traditional 401(k) contributions cut your taxable income now and are taxed in retirement. Roth 401(k) contributions are taxed now and grow tax-free. Choose Roth when your current tax rate is lower than you expect in retirement, and traditional when it is higher.
The one difference that matters
Traditional 401(k) contributions are pre-tax: they lower this year's taxable income, grow tax-deferred, and get taxed as income when withdrawn. Roth 401(k) contributions are after-tax: no deduction now, but qualified withdrawals, including all growth, are tax-free.
Employer matches always go into the traditional pre-tax side, even if you contribute Roth. So a Roth contributor still builds some pre-tax balance from the match, which adds useful tax diversification automatically.
The decision rule
Compare your marginal tax rate today with your expected rate in retirement. Early-career workers in the 12 percent bracket usually win with Roth, since their rate will likely rise. Peak earners in the 32 percent-plus brackets usually win with traditional, since their retirement rate will likely fall.
Uncertainty argues for splitting. Contributing some to each hedges against both higher future tax rates and lower-than-expected retirement income. Many plans let you split every paycheck between traditional and Roth.
Five situations that favor Roth
Young workers with decades of tax-free growth ahead, anyone expecting a pension that fills lower brackets in retirement, savers who want tax-free inheritance for heirs, people planning large Roth conversion ladders later, and anyone who simply values the certainty of never paying tax on the growth again.
Remember the five-year rule: Roth 401(k) earnings need the account open five years and separation after age 59 and a half for fully qualified tax-free withdrawals. Rolling a Roth 401(k) into a Roth IRA at retirement keeps the tax-free treatment with simpler rules.
Skip the arithmetic
Project both paths with the free 401(k) calculator using your expected return.
Roth 401(k) questions
Can I contribute to both traditional and Roth 401(k)?
Most plans with a Roth option let you split contributions any way you like, for example 6 percent traditional and 4 percent Roth. The IRS limit applies to the total across both types. Splitting is a simple way to hedge when you are unsure about future tax rates.
Is Roth or traditional better in your 20s?
In your 20s you are likely in a lower bracket than you will ever see again, so paying tax now is cheap. Plus, 40 years of tax-free compounding is enormously valuable. The exception is a high-earning 20-something already in a top bracket, where traditional deductions save more.