What Does Roth Deferral Mean and How Does It Work?

A Roth deferral is a contribution to an employer-sponsored retirement plan, such as a 401(k), made from a paycheck after income taxes have been withheld. This means the funds are taxed before being deposited, which is distinct from the traditional, pre-tax deferral method. The term “deferral” signifies that an employee is setting aside a portion of their salary for retirement instead of receiving it as current pay.

Core Tax Treatment of Roth Deferrals

Because the money is deferred after taxes are paid, it does not lower your current taxable income for the year. For example, if you earn a gross pay of $2,000 for a pay period and defer $200 into a Roth 401(k), your income for tax purposes remains $2,000. Federal, state, and Social Security taxes are calculated on that full amount before the $200 is deposited into your retirement account.

The benefit materializes decades later during retirement. When you take a qualified withdrawal from your Roth account, both your original contributions and all investment earnings are completely tax-free. If your initial Roth deferrals grow significantly, that entire sum can be accessed in retirement without owing any federal income tax on the growth.

You forgo an immediate tax deduction for the promise of tax-free income in the future. This structure is designed for individuals who anticipate that their income tax rate in retirement will be the same or higher than their current rate. By paying the taxes now, they lock in their current tax rate on their retirement savings, shielding future investment growth from potentially higher tax rates.

Comparison with Traditional Pre-Tax Deferrals

Traditional, pre-tax deferrals operate in the opposite manner. When you contribute to a traditional 401(k), the amount is deducted from your gross pay before income taxes are calculated. This reduces your current taxable income, providing an immediate tax break for the year of the contribution.

The investment growth within a traditional account is tax-deferred. When you begin taking distributions from a traditional 401(k), every dollar you withdraw—both your original contributions and the investment earnings—is taxed as ordinary income at the rates in effect at that time.

| Feature | Roth Deferral | Traditional Pre-Tax Deferral |
| :— | :— | :— |
| Tax Impact Today | Contributions are made with after-tax dollars; no reduction in current taxable income. | Contributions are made with pre-tax dollars; reduces current taxable income. |
| Investment Growth | Grows completely tax-free. | Grows tax-deferred. |
| Tax on Withdrawals | Qualified withdrawals, including all earnings, are 100% tax-free. | All withdrawals are taxed as ordinary income. |

With a traditional deferral, you receive your tax benefit upfront. With a Roth deferral, the tax benefit is realized at the end, when you access the funds in retirement.

Contribution and Withdrawal Rules

The Internal Revenue Service (IRS) sets an annual limit on how much an employee can defer into their workplace retirement plan. For 2025, this limit is $23,500 for employees under age 50. Those age 50 and over are permitted an additional catch-up contribution of $7,500. This limit applies to the combined total of an employee’s Roth and traditional deferrals and is not a separate limit for each type.

While employer matches have traditionally been made on a pre-tax basis, plans may now offer the option to receive these contributions as Roth (after-tax) funds. If the match is pre-tax, it is deposited into a separate sub-account and will be fully taxable as ordinary income upon withdrawal. If an employee elects to receive a Roth match, the contribution is included in their taxable income for that year, allowing for tax-free qualified withdrawals in retirement.

For the earnings in a Roth 401(k) to be withdrawn tax-free, the distribution must be “qualified.” This requires meeting two specific conditions. First, the account holder must be at least age 59½. Second, the account must satisfy the 5-year rule, which starts on January 1 of the year the employee made their first Roth deferral to that specific employer’s plan. Both conditions must be met for the earnings to be distributed tax-free.

Making the Roth Deferral Election

The process of starting Roth deferrals is managed through an employer’s benefits administration system. Employees access an online portal provided by the 401(k) plan administrator, where they can manage their retirement savings elections. This is the same system used to enroll in the plan, select investments, and designate beneficiaries.

Within this portal, employees can specify how much they wish to contribute from each paycheck, set as a percentage of their salary or as a fixed dollar amount per pay period. Most plans that offer a Roth option allow employees to split their deferrals between Roth and traditional accounts. For instance, an employee might choose to defer 6% of their pay, directing 3% to a Roth account and 3% to a traditional pre-tax account.

This flexibility allows employees to align their savings strategy with their financial outlook. The election can be changed at any time during the year, although some plans may have specific windows for making adjustments. The employee must log into their retirement plan account to make their desired elections.