Ask a CFP® – Foundational Questions Edition: What’s the difference between a Traditional and a Roth Account?
Over the past few weeks, we’ve covered the basics of What’s a 401(k)? and What’s an IRA?
This week, we’re tackling one of the most common follow-up questions:
“What’s the difference between a Traditional 401(k)/IRA and a Roth 401(k)/IRA?”
At first glance, they look very similar — both are “containers” for your investments, both have annual contribution limits, and both offer tax advantages. But the big difference lies in when and how your money is taxed, and that timing can have a big impact depending on your goals and stage of life.
Quick Recap: 401(k)s and IRAs
Before we dive into the tax differences, here’s a quick refresher:
401(k)s and IRAs are accounts that hold investments (like mutual funds, ETFs, stocks, or bonds). They are not investments themselves.
Contribution limits apply to both:
IRAs: Up to $7,000 per year ($8,000 if age 50+), or your earned income if less.
401(k)s: In 2025, between $23,500 and $34,750 depending on age and plan type, limited to your wages.
401(k)s are tied to your employer, while IRAs are opened and managed individually.
Key Differences:
Difference #1 - Timing of Tax Savings:
Traditional accounts - may help you reduce your taxes when you contribute. For 401(k)s this typically happens via a reduction in the “taxable wages” found on your W-2 and for IRAs, this typically shows up as an IRA deduction, but only if you qualify (more on that in a moment).
Roth accounts - do not help you save on taxes when you contribute (though you may qualify for a Saver’s Credit or Match, but that’s beyond the scope of this post).
Instead, Roth accounts allow for tax-free and penalty-free withdrawals of earnings if you’ve had the Roth account for at least 5 years and are age 59½ or meet another qualifying event (like disability, death, or a first-time home purchase). If you meet a qualifying event but not the 5-year mark, earnings may be penalty-free but still taxable.
In short, Traditional accounts can help you save on taxes now when you put money in, and Roth accounts can help you save on taxes later on down the road when you take money out.
Difference #2 - Required Minimum Distributions (RMDs):
For IRAs – Traditional IRAs require RMDs beginning at age 73 or 75 (depending on your birth year). Roth IRAs have no lifetime RMDs—you can keep the money in the account for as long as you live, since the IRS has already collected its tax.
For 401(k)s – Traditional 401(k)s require RMDs much like Traditional IRAs. However, if you’re still working for the company sponsoring the plan and you don’t own 5% or more of the business, you can typically delay RMDs from that plan. This exception doesn’t apply to IRAs or 401(k)s from former employers.
For Roth 401(k)s – Starting in 2024, Roth 401(k) balances are no longer subject to lifetime RMDs under current federal law. That said, some plans may still require withdrawals in certain situations—such as after you leave the company. In those cases, rolling over to a Roth IRA can give you back full control over when (or if) you take money out. Always consult your tax or financial advisor before making rollover decisions.
Additional Key Differences Specifically Related to IRAs:
Difference #3 - Access to Contributions Prior to Age 59 ½ :
With a Roth IRA, since contributions are made with “after-tax” money, you can withdraw your contributions (but not earnings) at any time, tax- and penalty-free—even long after the tax-filing deadline for the year you made them.
There are also exceptions, such as first-time home purchases, qualified education costs, or unreimbursed medical expenses, that allow for early access without penalties.
Of course, the goal is to keep the funds invested in the Roth IRA until you reach retirement, but this flexibility can be helpful if you need access to funds prior to retirement.
A few important notes on this:
·Only the contribution amount can be withdrawn early. So if you contribute $7,000 and it grows to $10,000, your $7,000 contribution can be withdrawn from the Roth IRA tax and penalty-free, but your $3,000 of growth would need to stay in the account or be subject to potential taxes and penalties if you choose to take it out.
Like all investment accounts, Roth IRAs can lose value. If your contributions drop due to market performance, your available withdrawal amount may be less than what you originally put in.
How this differs from Roth 401(k)s: Roth 401(k) withdrawals are subject to different IRS ordering rules, meaning you generally cannot withdraw just your contributions tax- and penalty-free at any time before age 59 ½. Withdrawals are treated as coming proportionally from contributions and earnings, so taking money out before meeting the age 59 ½ and 5-year requirements can trigger taxes and penalties on the earnings portion.
Difference #4 - Income Limits for Contributions:
Traditional IRAs: Anyone with earned income can contribute to a Traditional IRA. However, whether you can deduct your contribution depends on your income, your tax-filing status, and whether you (or your spouse) are covered by an employer-sponsored retirement plan.
Roth IRAs: Contributions to Roth IRAs are subject to income limits. If your modified adjusted gross income (MAGI) exceeds certain thresholds, your contribution limit may be reduced—or you may be ineligible to contribute entirely.
401(k)/Roth 401(k) Comparison: These income-based restrictions do not apply to 401(k) or Roth 401(k) contributions. If your plan allows it and you have enough earned income, you can contribute regardless of your income level.
See the IRS guidance on Traditional IRA deductibility and Roth IRA contribution eligibility here.
What if you make too much to contribute to a Roth IRA or deduct a Traditional IRA contribution?
Stay tuned—we’ll cover non-deductible IRA contributions and Roth conversions in an upcoming post.
So, Who Might Prefer Each One?
It often comes down to one key question:
“Do you expect to pay a higher tax rate now, or in the future when you withdraw the funds?”
If you expect your tax rate to be higher in the future, a Roth account may be the better choice (if you’re eligible). You pay taxes today, but enjoy tax-free withdrawals later in retirement.
If you expect your tax rate to be lower in retirement, a Traditional account may be more advantageous (again, assuming you’re eligible for a deduction). You save on taxes now and pay taxes at what you hope is a lower rate later on.
While this question seems simple, predicting your future tax rate isn’t easy. Career changes, family dynamics, income fluctuations, and even changes to tax law can all shift the answer.
Beyond Marginal Tax Rates
Most people compare today’s tax bracket to what they think it will be in retirement. That’s important, but it’s not the whole story. Other tax considerations can tip the scales, including:
Medicare IRMAA surcharges – Higher taxable income in retirement can increase Medicare premiums.
ACA subsidy thresholds – Retiring before Medicare age? Your taxable income may affect your net health insurance costs through the marketplace.
Social Security taxation – More taxable income could make a greater portion of your Social Security benefits taxable.
Phaseouts and thresholds – Withdrawals might push you into income levels where deductions, credits, or benefits phase out.
These factors can make the true tax cost of Traditional withdrawals higher than expected, even if your marginal rate stays the same or drops.
The Role of Tax Diversification
Having both Traditional and Roth accounts can give you flexibility in retirement—letting you choose where to draw from based on tax conditions at the time. Some value Roth accounts for the peace of mind that comes with “locking in” today’s tax rate, while others prefer the immediate benefit of a Traditional deduction.
TL;DR – Traditional vs. Roth Accounts
The Big Difference: It’s about when you pay taxes.
Traditional – May reduce taxes now (if eligible); withdrawals taxed later; RMDs apply (with some exceptions for active non-owner employees).
Roth – No tax break now; qualified withdrawals tax-free later; no lifetime RMDs for Roth IRAs, and none for Roth 401(k)s starting 2024 under current law.
2025 Contribution Limits:
IRAs (must have earned income):
Under age 50: $7,000
Age 50+: $8,000
401(k)s:
Under age 50: $23,500
Ages 50–59 or 64+: up to $31,000 (including $7,500 catch-up)
Ages 60–63: up to $34,750 (includes a super catch-up of $11,250 under current law)
Other Notes:
Roth IRA contributions (but not earnings) can be withdrawn anytime tax- and penalty-free. Roth 401(k) rules are stricter.
Traditional IRA deduction eligibility and Roth IRA contribution eligibility may be limited by income.
Having both account types can create “tax diversification” for flexibility in retirement.
As always, consult a qualified tax or financial professional before making contribution or withdrawal decisions.
Looking Ahead
Next week in our Account Types Series:
👉 What’s a Taxable Brokerage Account?
If you have a question you’ve always wanted to ask, basic or otherwise, send it to us at ask@sandersretirement.com. We’d love to include it in an upcoming post.
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