Is a Roth 401(k) Better Than a Traditional 401(k)?

Many employers now offer both Traditional and Roth 401(k) plans, a choice that impacts how your retirement funds are taxed. Understanding the differences between these account types is part of developing a financial strategy. The choice hinges on your current financial situation, your expectations for the future, and your personal savings goals.

Tax Treatment of Contributions

The primary distinction between a Traditional 401(k) and a Roth 401(k) is the tax treatment of your contributions. When you contribute to a Traditional 401(k), you do so with pre-tax dollars. This means the money is taken from your paycheck before federal and some state income taxes are calculated, which lowers your current taxable income for the year.

For example, if your annual gross income is $80,000 and you contribute $5,000 to a Traditional 401(k), your taxable income is reduced to $75,000. This reduction means you will pay less in income taxes for the current year. The contributions, along with any investment earnings, then grow on a tax-deferred basis.

Conversely, contributions to a Roth 401(k) are made with post-tax dollars. This means you have already paid income taxes on the money before it is deposited into your retirement account. There is no immediate tax deduction or reduction in your current taxable income, and your take-home pay will be lower compared to making an equivalent pre-tax contribution to a Traditional 401(k).

A Traditional 401(k) offers an immediate tax advantage, which can be appealing if you are in a higher tax bracket now and anticipate being in a lower one during retirement. A Roth 401(k) forgoes this immediate benefit for a future advantage. Both account types allow investment earnings to accumulate without being taxed annually.

Tax Treatment of Withdrawals

Withdrawals from a Traditional 401(k) are taxed as ordinary income. This means your initial contributions and all the investment earnings will be subject to federal and potentially state income tax at your rate during retirement.

Qualified withdrawals from a Roth 401(k) are completely tax-free. This applies to both your original contributions and all the accumulated investment earnings. This tax-free treatment in retirement is the primary benefit of the Roth structure and provides a source of retirement income that is not subject to future tax rate fluctuations.

For a withdrawal from a Roth 401(k) to be considered “qualified,” two specific conditions must be met. First, the account owner must be at least 59½ years old, permanently disabled, or the distribution must be made to a beneficiary after the owner’s death. Second, the account must satisfy the five-year rule, requiring five years to have passed since the initial contribution.

If you withdraw from a Roth 401(k) before meeting these requirements, the portion of the withdrawal attributable to earnings could be subject to both ordinary income tax and a 10% early withdrawal penalty. The portion that represents your own contributions can be withdrawn tax-free. This contrasts with early withdrawals from a Traditional 401(k), where the entire amount is subject to tax and penalties.

Contribution Limits and Employer Matching

The Internal Revenue Service (IRS) sets annual limits on how much an employee can contribute to their 401(k) plans. For 2025, the employee contribution limit is $23,500. This limit is a combined total that applies to any contributions you make to both Traditional and Roth 401(k)s.

For instance, if you are under age 50, you could contribute $13,500 to a Traditional 401(k) and $10,000 to a Roth 401(k) in 2025. Individuals age 50 and over are eligible for catch-up contributions, allowing them to contribute an additional amount. For 2025, this catch-up amount is $7,500.

Regardless of whether you contribute to a Traditional or Roth 401(k), employer matching funds are made on a pre-tax basis. These matching contributions are deposited into a separate, traditional sub-account within your 401(k). This means that even if you exclusively contribute to a Roth 401(k), the matching funds from your employer will be taxable upon withdrawal in retirement.

While the SECURE 2.0 Act of 2022 introduced a provision allowing employers the option to make matching contributions on a Roth (post-tax) basis, this feature has not been widely adopted yet. This creates a situation where a Roth 401(k) participant has two types of funds in their overall plan: their own post-tax Roth contributions and the employer’s pre-tax matching contributions.

Required Minimum Distributions and Rollovers

Retirement accounts are subject to rules that compel owners to begin withdrawing funds, known as Required Minimum Distributions (RMDs). The age to begin RMDs is currently 73, and it is scheduled to increase to age 75 in 2033. Historically, both Traditional 401(k)s and Roth 401(k)s were subject to these annual RMDs.

A change resulting from the SECURE 2.0 Act eliminated RMDs for Roth 401(k)s starting in 2024. This aligns the Roth 401(k) rules with the long-standing rules for Roth IRAs, which have never been subject to RMDs for the original owner. This change allows funds in a Roth 401(k) to grow tax-free for the owner’s entire lifetime without forced distributions.

An individual can roll over the assets from a Roth 401(k) into a Roth IRA. This is advantageous if an individual wants to consolidate accounts or gain access to a wider array of investment options than what their employer’s plan offers. Since Roth IRAs do not have RMDs for the original owner, this rollover ensures the funds can continue to grow without the requirement of taking distributions.

While a Traditional 401(k) must begin distributions at age 73, a Roth 401(k) owner is not required to take any money out. This allows the owner to pass on a potentially larger, tax-free inheritance to their beneficiaries, although beneficiaries will be subject to their own distribution rules.