401(k) vs. IRA: Where to Save Your Retirement Money?

401(k) and Individual Retirement Accounts (IRAs) plans are the two most common vehicles used to save for retirement. But what’s the difference? Which one is better for you?

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Both 401(k) and IRA are tax-advantaged retirement accounts. The basic difference between the two is that employers offer 401(k) plans and traditional IRAs are individual accounts that anyone can open up.

If you are confused about which retirement savings account is better for you, then this article will help you understand the various differences between the two, enabling you to decide what the better option is.

A 401(k) Is An Employer-Sponsored Savings Plan

An employer offers 401(k) to employees to help them save for retirement. This employer-sponsored retirement saving plan is an easy and powerful way to save for the future.

Here’s how:

Your contributions are directly deducted from your paycheck. This becomes easier to put money aside before you spend it. Depending on your plan, your employer can automatically enroll you, or you can set the contribution percentage.

Many employers also offer a matching contribution. This means that for every dollar you contribute towards your 401(k), your employer adds a certain percentage.

When an employer matches your contribution, they are adding additional dollars, above and beyond your pay to help build your retirement savings. It’s free money!

With a 401(k), your contributions and earnings are only taxed when you withdraw the money at retirement (most people fall in a lower tax bracket at retirement).

An IRA Is Simply A Personal Retirement Account

An IRA is a retirement account that you can set up to save money for retirement.

An IRA does not offer matching contributions or paycheck deductions, your overall income can limit the tax benefits, and the amount you save each year in an IRA may even be lower than in a 401(k).

Yet for roughly half of all American households, an IRA is the next best thing if they aren’t offered employer-sponsored retirement plans at their current jobs.

Moreover, data reveal that IRAs have 50% more money invested in them versus 401(k)s. This is because when people leave their job, they often choose to transfer money from their old employer-sponsored retirement plan into an IRA through a process called a rollover.

This process ensures that the account’s tax advantages stay intact until you withdraw the money in retirement.

Rollovers can be done multiple times throughout an individual’s career. This is why most Americans have multiple retirement saving accounts, including traditional IRAs, rollover IRAs, in addition to their 401(k) at their current employer.

401(k)s Vs. IRAs: The Retirement Planning Comparison

EligibilityEligible employee whose employer offers a planAny individual with earned income. There is no age limit.
Contribution LimitsIn 2022: If under age 50: $20,500 If above age 50: $27,000In 2022: If under age 50: $6,000 If above age 50: $7,000
Investment FlexibilityLimitedWide variety of investment options
Matching ContributionsThe employer may match a percentage of employee contributionsNot applicable
Income LimitsNo income limitsIncome limits apply
LoansHardship loans may be available to actively employed plan participantsLoans aren’t permitted
Getting StartedEnroll through employerEstablish an IRA through a financial institution offering them (banks, financial representatives, mutual fund providers, etc.)


Which Retirement Account Should I Choose?

If the IRA vs. 401(k) comparison is weighing on you, here’s the quick answer on how to decide:

If your employer offers a 401(k) with a company match:

Invest enough money in your 401(k) to get the maximum match. Depending on the 401(k) plan, the match may offer a 100% return on your money. For example, some employers commit to a 100% match of up to 3% of the salary.

It means, if your salary is $50,000, your employer will make a matching contribution of $1,500, provided you contribute at least $1,500.

If you have maxed out your 401(k) and still have money to save, you can make contributions to an IRA. In all probabilities, you may end up with both an IRA and a 401(k) at some point in your career.

If your employer doesn’t offer a company match:

You can skip 401(k) at first and start with an IRA or Roth IRA. Once you set up an IRA through a broker, you will get access to a wide variety of investment options without paying the administrative fees that some 401(k)s charge.

Once you are done contributing up to the IRA limit for the year, consider funding your 401(k) for the pre-tax benefit it offers.

If you don’t have access to a 401(k):

In this case, an IRA is your next best option.

The Bottom Line

Whether to invest in an IRA or 401(k) is not an easy decision to make. You’ll need to do your research and determine which retirement savings account is the best fit to reach your retirement goals and avoid common retirement planning mistakes.

If you get caught in a limbo, consult a reputable financial adviser to help you steer in the right direction.

Recommendations To Growing A Large Retirement Account

Now that you’re better informed on two of the most popular retirement accounts, it’s time to manage your finances like a ninja! To do so, sign up for Personal Capital, it’s the #1 free wealth management tool.

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I’ve been using Personal Capital since 2013. In that time, my net worth has skyrocketed thanks to better money management.

Personal Capital retirement planner projection example
(Image from Personal Capital)
About John Pham

John Pham is a personal finance expert, serial entrepreneur, and founder of The Money Ninja. He has also been fortunate enough to have appeared in the New York Times, Boston Globe, and U.S. News & World Report. John has a B.S. in Entrepreneurship and a Masters in Business Administration, both from the University of New Hampshire.

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3 years ago

what about an HSA? where should that be in the priority order?