There are high chances that you will rollover your 401k retirement plan at least once in your lifetime, if not multiple times. A 401k rollover is usually done when an employee leaves his current employer and moves to another company. The administration of the employee’s 401k account will be moved from old employer to new employer. A 401k rollover can also be done when a participant is eligible to rollover his current traditional IRA into a Roth IRA or Roth 401k. We will explain how to do these 401k rollovers right in this next section.

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The iJoin program seeks to manage risk by efficiently positioning your investment according to the program’s analysis and your personal risk tolerance, age, savings and retirement goals.

401k legislation is ever changing and the rules outlining the responsibilities of a fiduciary are clear. The penalties for a fiduciary who has knowingly or unknowingly participated in an act that may be detrimental to an employees account can be severe. All too often, significant ancillary investment, record keeping, advisory, and administration fees are subtracted without sponsors and participants knowing the full extent of how their accounts are being reduced. Starting in January 2012, new DOL legislation requiring detailed fee disclosure will go into effect to address the current inadequacy of the rules. Rules 408(b)(2), (effective April), and (404(a)(5), (effective within 60 days of rule 408(b)2), will finally enable plan sponsors and participants to make informed decisions regarding plan choices and allow for plan comparisons like never before. Plan sponsors are obligated to ensure that their plans will be in compliance with the rules, and, as previously mandated by the Pension Protection Act of 2006, that fees being charged are “reasonable”. 401k management companies can mitigate a plan sponsor liability, including potential penalties and litigation.

When it comes to risk, many investors just assume that it is the “price of admission” for being invested in the market. They think they will just have to go along for the ride. What they don’t realize is that there are 401k management companies to help manage risk – by understanding the market and carefully monitoring its movements. But this task is not something easily undertaken alone. It is a job best left to the techniques of 401k management companies who make it their mission to monitor the market each and every day.

What can the iJoin participant enrollment solution provide your 401k plan participants?

• Interactive and professional fund selection
• Behavioral analysis portfolio diversification
• Dynamic weighting based on individual circumstances and responses
• Risk and reward strategies tailored to a participant’s specific circumstances

The iJoin program seeks to manage risk by efficiently positioning your investment according to the program’s analysis and your personal risk tolerance, age, savings and retirement goals. The process is designed to reduce volatility and favors capital preservation by selecting the asset classes and styles that are proving to be strong performers (positive momentum) and eliminating the asset classes that are experiencing poor performance (negative momentum). This program does not guarantee that your investment will be in the best performing fund over any given time period.

We urge you to contact us now in order to assist you in the above. We will help you address your company’s retirement plan needs and obligations.

Financial advisors will never advise you to borrow money from your 401(k) retirement plan, after all this is the nest egg that you will need when you stop working upon retirement.

Other financial advisors will tell you borrowing a 401k loan from your own retirement account is more like an act of robbery! While it is encouraged not to ever borrow from your 401(k), there are advantages of doing so on the flip side; this is what we will explore in this article. In fact, according to a study conducted by the Employee Benefits Research Institute (EBRI), 18% of all 401(k) investors had outstanding loan balances at the end of 2006. Since 18% is a significant number, there must be some advantages to borrowing 401(k) loans that these people saw. Let’s look at some advantages of borrowing 401k loans, and how not to dig a deep hole in your retirement savings. The diagram on the left describes 401(k) loans in a nutshell. In the left side of the diagram, you are borrowing a loan from your local bank, that gets its funds from investors in the stock/commodities markets. This money in the stock market ultimately comes from mutual funds that hold 401(k) retirement money of millions of employed Americans. On the right side of the diagram, you are borrowing directly from your own 401(k) plan thereby eliminating the need for borrowing from your bank and the financial markets.

When Should You Borrow a 401(k) Loan?

When you need liquid cash urgently for a serious short-term need, a 401(k) loan from your retirement savings would sound probable. Short-term need is defined as less than 12 months. Also, a serious cash need is something that is really urgent, and not the purchase of a 47-inch Panasonic television. A 401(k) loan from your retirement savings is a quick, cost-effective way of borrowing, and it does not create a taxable event unless the limits placed on the loan are violated and the loan is not repaid on time. Also, if you pay back the short-term 401(k) loan on time, it will not significantly impact the total growth of your nest egg upon retirement. In fact, sometimes it may even have a positive impact on your total nest egg.

Basics of 401(k) Loan Borrowing

401k loans are not actually loans because there is no lender, and there is no examination of your credit rating. A 401(k) loan is the ability to reach in to your retirement nest egg and withdraw up to $50,000 or 50% of your total retirement savings, whichever is lesser. After that, you must pay back this money within 1 year to restore your 401(k) to its original level. The feature that really stands out in this transaction is that this whole process is tax-free, thus when you withdraw the $50,000, you will not be taxed on it, thus treating it as a tax-free cash withdrawal! Another cool feature of 401(k) loans is the Interest. For the 1 year period that you borrow the loan, you will have to pay interest fees, however these interest fees are added back to your original 401(k) nest egg. Thus, this is not a borrowing cost, in fact you are paying yourself back. This feature is a lot more attractive than having to borrow money from banks and paying their outrageous 10%+ interest rates.

4 Reasons to Borrow from Your 401(k) Plan

i) Repayment Flexibility: Most 401(k) plans allow a 5 year amortization repayment schedule, however your loan can be paid off faster with no prepayment penalties. You can setup automatic payroll deductions from your check with a percentage of it being taken off to repay your loan. After every biweekly payroll deduction, be sure to take a look at your month statements to make sure you have been credited for the deductions.

ii) Speed of Loan Request: Borrowing a loan from your 401(k) retirement savings requires no credit check to be done on you, nor is your credit rating checked. Your employer usually should have an online application form requesting funds from your 401k plan. If the management of your company’s 401(k) plans are outsourced to a financial services company such as JP Morgan, Manulife Financial or ICICI, then you should visit that bank’s website and log in to your account.

iii) Save on Fees: When you borrow from your 401k(k) plan, there are no costs associated other than the interest that you repay yourself. You do not have to pay the extremely high Credit Card APRs, late payment fees, overdraft interest, etc. When you log in to your financial services company’s website you specify from which investment you want to withdraw money from, and that investment is liquidated for your specified amount. Thus, you will be losing any positive gains you would have made if you had left your money intact in the investment, this is the disadvantage. However, you also avoid any losses that that investment might have made. You will realize there is an opportunity cost associated here. The cost of borrowing from your 401(k) plan versus borrowing from a credit card is:

For instance, if you borrow a loan from your credit card company at 15% APR, versus if you borrow from your 401k plan where you are currently returning 9% a year, the cost advantage is:

401(k) Loan Cost Advantage = 15% – 9% = 6%

Thus, you are saving 6% in interest fees and costs if you borrow from your 401k plan versus if you borrow from your credit card.

iv) Time for Payback: When you repay your 401(k) loan, you will have to pay slightly more than what you borrowed. This is the interest charged on your borrowing, and the best advantage of it is that instead of paying a credit card company, you are repaying yourself.

Media & Their Say on 401(k) Loans

The media always criticizes borrowing from your 401(k) loan as a legal “robbery” or “raid” on your retirement savings. They say this assuming:

i) The investment returns you gain from your 401(k) funds invested in the stock market generate strong returns. With the recession of 2009 in hand, and the Dow Jones hitting below 6000 points, you can actually forget about generating any returns on your investment! In fact, you should be worried about strong negative returns on your 401k funds.

ii) They do not take into account the extremely high Annual Percentage Rate (APRs) that banks and credit card companies charge on money borrowed from credit cards. Thus, if you refrain from borrowing 401(k) loans but rack up credit card debt and pay the extremely enormous interest rates, then it is time to think about a change.

We have witnessed quite a lot of dialogue over the past several years surrounding
the fiduciary obligations of retirement plan sponsors. Every year, the standard
for fiduciary conduct seems to expand the liability of those responsible for the management of a plan. Plan sponsors and fiduciaries have become very concerned with their fiduciary responsibilities as well as the risks connected with their particular employee benefit plan obligations. Plan sponsors wish to comprehend how they may meet these types of fiduciary responsibilities and also minimize any fiduciary risk for their companies and also for individuals.

Fiduciary risk mitigation needs to be an essential strategy for every plan sponsor
and fiduciary in helping assess, comprehend and isolate duties and responsibilities
as a result of a fiduciary and support the plan sponsor in demonstrating that they’re achieving their obligations.

In other words, developing robust fiduciary risk mitigation procedures:

• Defends the financial viability of your {firm|business|corporation}.
• Safeguards the financial viability of the individual fiduciary.
• Will help plan sponsors grasp the implications of any fiduciary infraction.
• Will help plan sponsors undertake recommended action in order to mitigate their particular risks.

Fiduciary risk mitigation was designed to develop procedures and processes which protect the plan sponsor and individual fiduciaries. The majority of plan sponsors recognize that plan fiduciaries have a responsibility to behave in the interest of the plan and plan participants. Nevertheless, the same plan sponsors usually find it hard to define who actually is a fiduciary to their plan. Furthermore, plan sponsors are usually not aware that being a fiduciary can put their personal assets at an increased risk. Plan
sponsors who may have not implemented these procedures and processes have not only elevated the financial risk for their organization, they’ve also elevated the financial
liability of the individuals who are fiduciaries to the plan(s).

In this article, we will look at the advantages of making salary deferral 401k contributions to employer sponsored retirement programs.

1) Reduces Your Current Taxable Income

Contributions towards an employer sponsored 401k retirement plan are made in before-tax dollars. This means your current taxable income for the year is reduced by the total amount of contribution you have made. For example, you might be single and earn $50,000 this fiscal year. However, if you make a $4000 contribution towards a 401k retirement plan this year, your current taxable income for the year will be reduced to $50,000 – $4000 = $46,000. Say hypothetically, you are in the 25% tax bracket. Here are the results:

• Before Making 401k Contributions $50,000 x 25% = $12,500 Tax Owing
  After Making 401k Contribution of $4000. $46,000 x 25% = $11,500 Tax Owing
• After making 401k contributions of $4000, you have lowered your current tax owing from $12,500 to $11,500.
• Note: This is only a hypothetical example. Individual results are based on current taxable income, amount of 401k contributions and what tax bracket you fall into.

Note also that you will eventually be taxed on this $4000 you contribute towards a 401k plan. However, if you do this at the age of 65 (when you are not working and are in a lower tax bracket), you will pay a much lower tax at the age of 65, as opposed to now. Make sense?

2) No Taxes Owing on Earnings

Another advantage of contributing towards a qualified 401k retirement plan is the fact that any earnings you make on your contributions are also tax-deferred up until you retire or withdraw your money. For example, consider this hypothetical example:

• Annual 401k Contributions $4000
• # of Years of 401k Contributions 10 Years
• Interest Rate (Compounded Annually) 8%
• Future Value of 401k Investment 62,581.95
• Original Principal $4000 / year x 10 Years = $40,000
• Earnings $62,581.95 – $40,000 = $22,581.95

Until the time you make 401k withdrawals or turn 65 (upon retirement), you will NOT be taxed on this earnings amount of $22,581.95. Say you are in a tax bracket of 25% at the moment earning $50,000 a year. However when you retire, you will be in a tax bracket of only 10%. This means when you withdraw this earnings amount of $22,581.95 at the age of 65, you will be taxed only 10%, as opposed to getting taxed at your current tax bracket of 25%. Make sense?

3) Employer Match 401k Contributions

Most employers will match your 401k contributions up to a certain percentage amount. You should at least make salary deferral 401k contributions up to the percentage amount of 401k contributions your employer is willing to pay for you. Consider this hypothetical example:

James works for Coco Corporation and has an annual gross salary of $40,000. His employer said he will make employer matched contributions of $0.55 per every dollar that James contributes, up to 5% of his salary. Here’s what’s going on:

• John’s Annual Wage $40,000
• 5% of John’s Annual Wage $2000
• John Contributes $3000 this year to 401k Plan $3000
• Employer Matched 401k Contribution = $3000 x 0.55 = $1650

Therefore, what is the total sum of 401k contributions that John and his employer are making together?

• Total 401k Contributions $3000 + $1650 = $4650

What will the nest egg of John be after 10 years? Using a table similar to the one we used above, here are the results:

• Annual 401k Contributions $4650
• # of Years of 401k Contributions 10 Years
• Interest Rate (Compounded Annually) 8%
• Future Value of 401k Investment $72,751.52
• Original Contribution $3000 / year x 10 Years = $30,000
• Earnings $72,751.52 – $30,000 = $42,751.52

John contributing solely to the 401k plan would have resulted in a nest egg of $46,936.46 in 10 years. However, John and his employer matched contributions combined would result in a nest egg of $72,751.52 The difference is huge:

• Difference = $72,751.52 – $46,936.46 = $25,815.16

Studies indicate that many people do not save for retirement because they do not understand all the 401k gibberish. First there’s the traditional 401k, then there’s the Roth 401k, annuities, ROTH IRA, Individual Retirement Accounts (IRAs) and your savings account at your local bank. Out of all these options, the Roth IRA has come out to be the best and the most popular option. Why? Because its tax-free growth and flexibility of making withdrawals cannot be competed against! Studies suggest that compared to traditional 401k or 403b plans, a retiree who saves in a Roth IRA will have more savings upon retirement. Total Roth IRA assets in the United States totaled $178 billion as of December 2006 (Source: Investment Company Institute).

The Roth IRA was introduced under the Taxpayer Relief Act of 1997, pioneered by the late Senator William V. Roth, Jr. Under a Roth IRA, an individual can invest in all types of investment vehicles including common stocks, mutual funds, futures & options, certificates of deposit, as well as real estate. The main advantage of Roth IRA is its tax structure. Contributions to a Roth IRA are made only from earned income that has been taxed by the Federal government. Since you already pay taxes before saving your money in a Roth IRA, you are not required to pay federal taxes when you make withdrawals from your Roth IRA. Also, any capital gains you make on your Roth IRA investments can be withdrawn tax-free!

Difference between Traditional IRA and Roth IRA

In a traditional IRA, any contributions you make are tax-deductible and any withdrawals you make will be taxed by the federal government. This works inversely with a Roth IRA where any contributions you make is not tax-deductible (because you have already paid taxes on this), and any withdrawals you make will NOT be taxed by the federal government.

Roth IRA Contribution Limits

Advantages of Roth IRA

i) Roth IRA owners can withdraw up to the total value of their contributions at any point in time, without having to pay the 10% early withdrawal penalty or any federal income taxes.

ii) Upto $10,000 can be withdrawn without any penalty if the owner wishes to purchase a home or principal residence. The home must be purchased by either the Roth IRA owner, his spouse, ancestors or descendants. Also, the Roth IRA owner must not have previously owned a home for at least 24 months.

iii) If a Roth IRA owner dies and his spouse also owns a separate Roth IRA, the spouse is permitted to combine the two Roth IRAs into 1 single account without any penalties or fines.

iv) The Roth IRA does not force distributions upon the owner reaching 70 and 1/2 years of age. This is unlike all tax-deferred retirement plans including the Roth 401k where the owner is required to take minimum required distributions (MRDs) after the age of 70 and 1/2 years. Usually all distributions must be withdrawn by April 1st of the calender year.

v) If the Roth IRA owner expects to be in a higher tax bracket upon retirement, it is advantageous for him to contribute maximum amounts of money towards a Roth IRA. Why? Because money being invested in a Roth IRA is taxed at the current lower tax bracket, and will not be taxed when it is withdrawn upon retirement (and when the Roth IRA owner is in a higher tax bracket). For example, consider an investor who contributes $2000 to a Roth IRA when he is in a tax bracket of 21%, and will be in a tax bracket of 33% upon retirement. This means that investor has already paid 21% x $2000 = $420 in taxes. Upon retirement if the investor wants to withdraw his funds, he would have had to pay 33% x $2000 = $660 under a Traditional IRA. However since the investor has already been taxed at his lower bracket of 21%, he would NOT have to pay taxes upon taking retirement distributions when he is in a 33% tax bracket.

Understand 401k Hardship Withdrawals

The Internal Revenue Service (IRS) allows 401k investors to take out 401k hardship withdrawals in the form of loans only if these 6 criteria are met:

i) the withdrawal is due to an immediate and important financial need
ii) the withdrawal must be necessary to satisfy that need
iii) You have no other way to fulfill that need or no other sources of money
iv) the withdrawal should not exceed the total amount needed by you
v) You cannot contribute to your 401k plan for up to 6 months after your withdrawal date
vi) You must have first received all non-taxable distributions or loans available under your 401k

401k Hardship withdrawals are permitted by some large companies, but due to the high costs of administering them, they may not be readily available in smaller companies. Check with your Human Resources department to see if 401k hardship withdrawals are permitted in your 401k program.

The following are reasons acceptable by the IRS for a hardship withdrawal

i) Repairs of primary residences
ii) Funeral expenses
iii) Payments necessary to prevent you from being forced out of your home
iv) Home foreclosures
v) Payments of college tuition & other educational costs such as room & board, transportation, food, etc.
vi) Purchase of principal residence
vii) Unexpected or un-reimbursed medical expenses

401k hardship withdrawals are subject to a 10% early withdrawal penalty as well as income taxes due. For example if you withdraw $10,000 as hardship withdrawal, you will owe $1000 in penalty, as well as be taxed on the $9000. There are some hardship withdrawals however that are not subject to the 10% penalty, they are:

i) You stop working, get laid off, quit or retire in the year you turn 55 or after
ii) Court orders you to give money to a divorced spouse or dependent
iii) Unexpected medical debts that exceed 7.5% of your Adjusted Gross Income
iv) Permanent disabilities
v) You stop working and begin taking regular payments based on a schedule that will make equal payments for the rest of your expected life; this must last for 5 years or until you turn 59 and 1/2, whichever is longer.

A Simple 401k plan is less well known than its counterparts Simple IRA and a traditional 401k but actually combines the best of benefits provided by both plans into 1 single plan, the Simple 401k. In this article, we explore some of the features provided by Simple 401k plans and advantages/disadvantages.

Advantages of Simple 401k Plans

i) No Testing – Traditional 401k plans require intensive testing to make sure the plan works in compliance with regulatory requirements set out by law. Such testing must be done by 401k professionals and can be very costly. On the other hand, Simple 401k plans do not require such testing and can be very appealing to small business owners who do not have the capital to expense to all the heavy testing that traditional 401k plans require.

ii) Borrow Loans - Simple 401k plans make it easier to borrow loans from one’s 401k and pay it back in the form of principal and interest payments.

Disadvantages of Simple 401k

i) Immediate Vesting – With traditional 401k plans, new employees may be required to work a minimum # of years or months before they can make contributions to the company’s 401k plan. This can work in the form of a contribution vesting schedule. With Simple 401k, contributions are vested 100% immediately. This means employees who meet the eligibility of taking distributions from their retirement accounts may do so at any time, even if it means withdrawing their entire savings account.

ii) Lower Contribution Limits – The contribution limits for Simple 401k plans are lower than those of traditional 401k plans. Here’s a comparison of salary deferral limits for both plans.

iii) Limited Employer Matched Contributions – Employer matched contributions are limited to 3% of the employee’s compensation while this is up to 25% for traditional 401k plans.

iv) One Plan Limitation – An employer who participates in a Simple 401k plan cannot maintain any other retirement program for any of its employees that are eligible for Simple 401k contributions. On the other hand, an employer who maintains a 401k retirement program for its employees may also administer and have other defined-contribution plans, SEP IRAs, profit sharing and Roth IRA plans.

Eligibility for Participation

i) Every employer who is eligible to run a traditional 401k program for its employees is also eligible to administer Simple 401k. Examples include sole proprietors, partnerships and corporations. However, Simple 401k plans are limited to employers who have a maximum of 100 employees, each receiving compensation in excess of $5000 annual.

ii) Employees who have worked for their current employers for at least 1 year and who are 21 years or older must be allowed to participate in the Simple 401k plan.

Deadline?

A Simple 401k plan must be established between January 1st – September 30th of any year. This rule is waived for any businesses or corporations that go in to business after October 1st of the current year.

While there are many similarities between simple IRAs and Simple 401k plans, there are many differences as well. In this article, we compare and contract between Simple IRAs and Simple 401k plans.

Eligibility:

i) Employers – For both the Simple 401k and Simple IRA plans, employers must have a maximum of 100 employees or less who receive at least $5000 in annual compensation. Also, employers cannot maintain any other retirement plan for their employees who are eligible for the Simple 401k other than the Simple 401k. The employers can however run another retirement plan for employees who do not qualify for making contributions into the Simple 401k.

By contrast, an employer who runs a Simple IRA for his employees is not permitted to run any other retirement program no matter what. Therefore if an employee does not qualify for making contributions to a Simple IRA while his employer only administers a Simple IRA, then too bad for that employee!

ii) Employees – Employees are normally required to perform at least 1 year of service before they are eligible to participate in an employer’s Simple 401k plan. They must also be at least 21 years of age. By contrast, there is no age requirement for Simple IRA and no minimum 1 year service. Any employee who has earned at least $5000 in annual compensation in the last 2 years, and is reasonably expected to earn $5000 annual compensation this year is permitted to contribute to a Simple IRA plan.

The deadline to establish a Simple 401k or a Simple IRA is January 1st to October 1st of any given year. If a new business or corporation is formed after October 1st, then they are permitted to set up a Simple 401k or a Simple IRA. This deadline allows employees to make salary deferral contributions before the year end.

Also, because a Simple IRA is part of Individual Retirement Accounts, no loans are allowed to be withdrawn. By contrast, a hardship withdrawal or loan is permitted under the Simple 401k. Go here to learn more about 401k hardship withdrawals. Also, all contributions to a Simple 401k or a Simple IRA are 100% immediately vested.

Making Contributions to Simple 401k or Simple IRA

Employees are eligible to make salary deferral contributions to these retirement plans while employers can make matching contributions. For matching contributions, employers can make contributions of up to 3% of the employee’s total annual compensation. Here are the deferral limits for both the Simple 401k and Simple IRA programs:

Investors who are 50 years of age or older can make 401k catch up contributions. Also, the matching contributions that employers can make varies from the Simple 401k to the Simple IRA. All employer matching contributions to the Simple 401k are subject to a compensation cap of $245,000 for 2009 and $245,000 for 2010. Here’s an example to illustrate this concept:

Wood Corp. established a Simple 401k for its 95 employees. The company has elected to make matching contributions to each employee’s 401k for the year 2007. Joe who is the Chief Financial Officer of the company is eligible to receive $250,000 in annual compensation from the company. Joe decides to make his salary deferral contribution to the maximum limit of $10,500 for 2007. The amount of matching contribution that Joe receives from his employer depends on whether it is a Simple 401k or a Simple IRA.

i) Simple IRA – Joe would receive a matching contribution of 3% x $250,000 = $7500

ii) Simple 401k – Joe would receive a matching contribution of 3% x $225,000 = $6750
Note how only $225,000 out of Joe’s total compensation of $250,000 is taken into account. This is because under a Simple 401k, the employer would consider no more than $225,000 on which to make matching contributions.

3% Matching Contributions?

For the Simple IRA, an employer that decides to make matching contributions may reduce the percentage from 3% to 1% or more, for 2 out of every 5 years. The matching contribution percentage cannot be reduced to less than 1%

Further Readings

For further readings, go to IRS Publication 560 – http://www.irs.gov/publications/p560/index.html It gives very useful information on setting up Simple 401k or Simple IRA plans, contribution limits, notification requirements, tax treatment of contributions, minimum funding requirements, due dates and more!

Introduced in January 2006 under a provision of the Economic Growth and Tax Relief Reconciliation Act of 2001, the Roth 401k is different from the traditional 401k plan because contributions are made after-tax (meaning after tax has been deducted off your pay). The Roth 401k is very similar to the Roth IRA; investors receive no tax deduction on annual contributions, but any withdrawals or proceeds will not be subject to tax either. Investors who own 403b plans are also eligible to contribute to Roth 401k. The government was more than happy to introduce this new piece of legislation because it means investors will pay more tax now, rather than making salary deferral contributions as in the case of traditional 401k plans.

The Roth 401k works inversely with a traditional IRA. With a traditional IRA, an investor receives current tax deduction after making contributions. Instead of this money going to the IRS now, it will stay with the investor and he can invest it in stocks/bonds/mutual funds or real estate. Over time, this money will grow tax-deferred. The government likes this idea too because say after 30 years of investing in various stocks/commodities/real estate, an investor has grown his money from $50,000 to $200,000. If he withdraws this money from his IRA, he will have to pay taxes not on the initial $50,000 but on the whole $200,000!

The Roth 401k works inverse with the above idea. The money you earn this year is taxed this year. You make contributions to a Roth 401k from your after-tax earnings. When you reach the age of 59.5 or more, you are eligible to make withdrawals that are not taxable (because they have already been taxed). The prospect of receiving tax-free money upon retirement is an idea liked by many investors. The idea of receiving tax dollars now is very much liked by the government such that some senators have proposed getting rid of traditional 401k plans or IRAs.

Roth 401k Works Best if:

• The federal government increases taxes over time
• You are a high income earner who has a compensation cap on Roth IRAs (maximum compensation cap of $245,000 in 2011)
• The mutual funds or stocks where you put your Roth 401k capital experience significant returns
• You are a young investor and need more time for your account to grow across various investments such as mutual funds, stocks, commodities, etc.
• You are in a lower tax bracket now and will be in a higher tax bracket upon retirement

Understand the Advantages of Roth 401k

i) Unlike the Roth IRA that has income limitations that will restrict high income earners from deducting the maximum tax off their earnings, the Roth 401k has no income limitations. The maximum compensation cap for Roth IRA is $101,000 for 1 individual, or $159,000 for for joint tax payers. In the case of the Roth 401k, there is no such compensation cap.

Note: The contribution limit for Roth 401k for 2011 is $16,500 for people under the age of 50, and $22,000 for people over the age of 50.

ii) Roth 401k provides tax-free withdrawals upon your retirement, and this idea is very appealing to investors.

iii) Also because of uncertainty regarding future tax legislation, it is better to lock in a lower tax rate now, than to wait upon retirement and pay taxes then. This is especially true for young investors who are earning lower incomes.

Disadvantages of Roth 401k

i) If you get terminated from your job or laid off and are forced to take a distribution of your Roth 401k assets, you are NOT exempt from paying taxes and will have to pay them.

Important Things You Should Know

Here are some of the important characteristics of Roth 401k that you should know about

i) Roth 401k is Voluntary – That’s right, Roth 401k is voluntary for employers. In order to offer Roth 401k for their employees, employers have to set up a tracking system that segregates Roth assets from the company’s existing plan. This tracking system is expensive to build and maintain, and employers may not choose to do it at all. If so, your employer will not be eligible to offer Roth 401k.

ii) Also, any matching contributions that your employer makes towards your Roth 401k must be deposited into a traditional 401k plan. Go figure!

iii) Unlike Roth IRAs, people who reach over the age of 70 and 1/2 must take minimum required distributions (MRDs) from their Roth 401k. This forces investors to take distributions even if they don’t want them or need them. Why wouldn’t they want them? Some investors like to leave behind inheritances for their children and grandchildren, and taking MRDs is not an option.

iv) If you think you are in a lower tax bracket now and will be in a higher tax bracket upon retirement, use a Roth 401k. If you think you will be in a lower tax bracket upon retirement and are thus in a higher tax bracket now, a traditional 401k makes sense.

v) Assets in a traditional 401k cannot be converted into a Roth 401k.