Looking good there, Roth

Marketplace Staff May 11, 2007

Looking good there, Roth

Marketplace Staff May 11, 2007

TESS VIGELAND: Retirement planning sometimes resembles alphabet soup: 401k, IRA, SEPP. Maybe that’s one reason why a relatively new option hasn’t gotten much attention from employers. It’s called a Roth 401k. Well, the Treasury Department recently issued some new rules to make it more attractive.

We’ve asked Liz Pulliam Weston from MSN Money to explain. Liz, what’s changed?

LIZ PULLIAM WESTON: The two big issues here had to do with whether an employee could consolidate one 401K Roth plan with a previous employer’s plan and put it in with a current plan. The Treasury department said yeah, that’s fine. The second big issue was if the employee wanted to take his/her contributions out of the plan before the magic age of 59.5. This is an issue because with the Roth IRA, which the Roth 401K plan was based on, you can always take your contributions out. There’s no penalty and there’s no taxes. The Treasury department decided you can still take your contributions out, but you do have to take taxes out on any gains that you’ve had in the meantime.

VIGELAND: Is there a penalty that goes along with that?

WESTON: I believe so – the 10 percent premature withdrawal penalty.

VIGELAND: You and I have talked before about the Roth 401K plan. You’re a big fan of it. Remind us why.

WESTON: To understand the benefits of a Roth 401K, you have to back up a bit and understand why a Roth IRA is such a good deal. With the Roth IRA, you put the money in – you don’t get a tax deduction right away but the money gets a chance to grow over time. And when you take the money out in retirement – that money is entirely tax free. Add to that that you don’t have to take it out on any set schedule . . . with the Roth IRA, you can take it out when you like – or not at all if you don’t need it. You can just pass it on.

VIGELAND: So the why do we need a Roth 401K?

WESTON: A Roth 401K adds that benefit to a regular 401K. The problem with the Roth IRA is that there are income limits, with the Roth 401K there are no income limits – anyone can contribute if their employer offers it.

VIGELAND: Does the tax free benefit apply to the employer contributions?

WESTON: No. Unfortunately, that does go into pre tax part of the plan.

VIGELAND: All right, so hopefully we’ll see more employers offering this type of plan and your advise is go ahead and take advantage of it.

WESTON: Absolutely. My feeling is that most people are going to be better off at least putting in half their money in the Roth 401K.

VIGELAND: Liz Pulliam Weston, thanks for coming in.

WESTON: Any time.

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