What Type of Corporate Retirement Plan Should I Use?

CWT Blog | What Type of Corporate Retirement Plan Should I Use?

When it comes down to your employer offering a retirement plan, there are a lot of items to consider before making your decision of which type of plan to choose. Traditional retirement plans, 401(k), Roth 401(k), IRA, Roth IRA – the list goes on. We’ve broken down these five plans so you can easily decide which type of corporate retirement plan you should use. Keep reading to learn more!

Traditional Retirement Plans

These retirement plans are also called defined benefit pension plans. Once the most common type of retirement plan, defined benefit pension plans offer a specified amount each month. Not only do they consider how long you have been employed, but traditional retirement plans consider your salary history as well when determining the correct amount for your plan.

401(k) Plans

A 401(k) plan is a plan that allows you to defer some of your salary. Rather than getting a fixed amount in your paycheck each month for retirement, a 401(k) plan defers the money. 401(k) plans are typically not taxed until the money is taken out, and these plans are able to be adjusted as little or as much as you would like. In today’s day and age, this is the most common type of employer-sponsored retirement plan.

Roth 401(k)

A Roth 401(k) is a little different from a regular 401(k). This type of retirement plan offers the same benefits of a Roth IRA, but contributions to a Roth 401(k) are not tax-deductible. The earnings you receive from your investments are accrued based on a tax-deferred basis. To determine if you should use a Roth 401(k) or a traditional 401(k), you need to ask yourself if you think you will be at a higher tax rate when you are about to retire.

IRA (Individual Retirement Account)

An individual retirement account is an option that only is available to those with already earned income. This type of retirement plan is also one of the most popular plans to choose from. With an IRA, “Compounding money is a snowball effect—investment returns can be reinvested and generate more returns, which are reinvested,” according to Investopedia.

Roth IRA

A Roth IRA is different from a traditional IRA in that, “You may be eligible to take a tax deduction on your contributions in the year you put the money in, and then your withdrawals in retirement are taxed as income,” (O’Shea & Coombes, 2020). With a Roth IRA, you do not get a tax break on your contributions because you end up getting that tax break later.

As these are brief descriptions of the most common corporate retirement plans, it is best to consult If you are a high earner, and find yourself in a position of uncertainty around what accounts you should be utilizing for your savings, you should consult one of our professionals about which type of plan will work best for you.

Sources
Kagan, Julia. “IRA Plan.” Investopedia, Investopedia, 28 May 2018,
www.investopedia.com/terms/i/ira-plan.asp.

O’Shea, Arielle, and Andrea Coombes. “Roth IRA: How They Work, Rules to Know, Where to Begin.” NerdWallet, 6 Jan. 2020, www.nerdwallet.com/article/investing/what-is-a-roth-ira.

The Mega Back-Door Roth Strategy You Should Be Using

CWT Blog | The Mega Back-Door Roth Strategy You'll Want to Steal
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“I make too much money to contribute to a ROTH retirement account.”

How many times have we heard this as advisors? The good news is, no you don’t!

Many working individuals believe they are ineligible for ROTH accounts. What if I told you there are strategies to deposit funds into a ROTH every year regardless of your income?

It’s true. Many investors and professional advisors are not well versed in how to utilize the tremendous benefits of ROTH retirement accounts.

Please note, this is a guide to familiarize you with this strategy, if you’d like to learn more, you can speak with one of our financial advisors here.

Retirement Account Basics

Regular retirement accounts, IRA, SEP, 401k, 403b and Profit Sharing Pension plans all grow tax deferred. This means you do not pay taxes on the earnings in these retirement accounts until the funds are withdrawn, usually in retirement. In contrast, ROTH retirement accounts do not pay taxes on their earnings even when the funds are withdrawn in retirement. Money you contribute to a Roth truly becomes tax-free.

Chances are you have a 401k plan at work. You know you can put part of your salary in a retirement account before you pay tax on it, and that money grows tax-deferred. Your company usually matches a portion of what you put into the account as well. Since the money you put into these accounts do not incur any tax until you take it out, it’s a great way to save for retirement as your money grows more quickly than it would in a traditional investment account.

In addition, many plans also allow for Roth contributions, where the money is taxed before it goes into the 401k, but it then grows tax-free (assuming you meet several requirements). This may be a great strategy depending on your situation but many savers are reluctant to give up the tax deduction from the normal pre-tax contributions.

What Can You Contribute to a 401k?

Everyone wants to know how much they can contribute to a 401k. A simple Google search will tell you that the IRS does limit what you can put into these accounts. In 2020, the maximum you can contribute to a 401k plan is $19,500 (if you are over 50 you can add an additional $6,500 for a total of $26,000 per year). However, this is where most people’s understanding of their 401k plan ends.

If your knowledge ends here, know that you aren’t alone. There are so many subtle nuances in the different types of 401k plans and various advantages and drawbacks of each. This is why a customized financial plan is crucial; an advisor can help look at your overall situation with the specific type of plan you have, and make more informed decisions for you to efficiently plan for the future.

Enter the Mega Back-Door Roth Strategy

If you regularly max out those traditional 401k limits, you’ll want to pay attention here. What most people may not know is that the actual 2020 IRS limit for the total amount of Employee and Employer contributions is 100% of your income or $57,000 whichever is less (or $63,500 if you’re over age 50.)

Most people contribute the maximum deferral of $19,500 in each year, their company puts in an additional $5,000-10,000, and that’s it. For high earners, this usually results in excess money going into a savings account where it sits in cash and doesn’t grow, or into brokerage account each month where it’s at least growing, but that growth is subject to taxation, eating into the overall return. Financial planning is all about efficiency and making sure you are taking advantage of everything you can to maximize the growth of your money. So, after you’ve maxed your 401k contribution, where should you contribute next?

Most high earners contribute the maximum pre-tax contribution of $19,500 and stop there, even though the IRS allows you to put up to $57,000! This is a huge benefit that few people take advantage of simply because they were unaware. What if you could contribute an additional $20,000 to $30,000 per year and have those funds grow tax free? Would this be of benefit to you? Not all 401k plans allow these types of contributions but we can help you to determine if your plan has this option.

Even if your 401k plan does not have the appropriate features to allow for these additional deposits, there is one additional strategy to allow for annual ROTH IRA deposits up to $14,000 per year for a married couple. Are you a business owner? Consider setting up your solo plan to allow for these additional benefits.

Remember, both the ROTH 401k strategy and the ROTH IRA strategy are available regardless of your income.

If you are a high earner, and find yourself in a position of uncertainty around what accounts you should be utilizing for your savings, I urge you to contact one of our financial planners here.