Both 401 (k) and IRAs have valuable tax benefits, and you can contribute to both at the same time. The main difference between 401 (k) and IRAs is that employers offer 401 (k) plans, but people open IRAs (through brokers or banks). IRAs tend to offer more investments; 401 (k) allow for higher annual contributions. An Individual Retirement Account (IRA) allows you to save money for retirement with tax advantages.
Taxes on investment profits are deferred as long as they are held in the Roth IRA and are possibly tax-free at the time of distribution. Some common suggestions, depending on a person's financial situation, include funding a 401 (k) plan for the amount needed to receive the employer's full matching contribution before saving in an IRA, and dividing retirement savings contributions between pre-tax and Roth contributions to take advantage of both types of tax benefits. A Roth IRA is a good option if you don't meet the requirements to deduct contributions to a traditional IRA or if you don't mind giving up the immediate IRA tax deduction in exchange for tax-free growth in your investments and tax-free withdrawals during retirement. The best IRAs allow you to invest in potentially high-yield assets, such as stocks and equity funds.
IRA owners must pay income taxes on the money they withdraw from the IRA in the year in which they make the withdrawal. Only in the worst case scenario, a retirement account with really bad investment options and with high fees and high administrative costs, would it be advisable to completely avoid the company's plan. Income limits apply to receiving a tax deduction if the owner or spouse of an IRA participates in an employer's retirement plan. When you open your IRA at a broker, you'll have access to a wide selection of investments and avoid the administrative fees charged by some 401 (k) plans.
Roth IRA contributions are made with after-tax dollars, so IRA owners don't have to pay taxes on contributions when they withdraw from the Roth IRA. Form 5498 Reporting incorrect information on Form 5498, Information on IRA Contributions, can cause taxpayers to make mistakes when reporting the IRA on their tax returns. If neither you nor your spouse (if any) participate in a work plan, then your traditional IRA contribution is always tax-deductible, regardless of your income. In addition, even if you don't qualify to deduct your contribution to a traditional IRA, you can make non-deductible contributions and continue to benefit from tax-deferred investment growth.
IRAs and 401 (k) plans offer some of the same savings and tax benefits, but each has its own rules and there are different rules for different types of IRAs and 401 (k) plans. A 401 (k) plan and IRA can be designed to allow for after-tax cash contributions, called Roth 401 (k) contributions and Roth IRAs.