401 (k) plans add Roth accounts but savers don’t follow

Roth accounts are available in more 401 (k) plans than ever before. Savers for retirement don’t rush.

About 75% of employers with a 401 (k) workplace allowed employees to save money on a Roth account in 2019, up from 69% the year before and 46% a decade earlier, according to the latest data. most recent from the Plan Sponsor Council of America. .

Yet the share of 401 (k) investors saving in a Roth account remains stubbornly low.

About a quarter of 401 (k) investors do – a share that has been fairly stable in recent years, according to Nevin Adams, head of research at the American Retirement Association, a trade group that includes the Council.

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A Roth 401 (k) is a type of after-tax account. Savers pay tax up front on contributions; they pay no tax on contributions or investment income when they withdraw funds in retirement.

This is different from traditional pre-tax savings, where savers get tax relief up front but pay later. Workers can contribute up to $ 19,500 to their 401 (k) this year between the two types of accounts. (People 50 and over can save an additional $ 6,500.)

“We have found that the Roth is so underutilized,” said Ellen Lander, director and founder of Renaissance Benefit Advisors Group, based in Pearl River, New York. “It’s amazing to me how many misunderstandings there are.”

Roth 401 (k) contributions make sense to investors who are likely in a lower tax bracket than they were when they retired. (They would build up a bigger nest egg by paying taxes now at lower rates.)

Of course, it is impossible to know what the tax rates will be or his exact financial position in retirement, which may be decades away.

However, there are a few guiding principles. For example, Roth accounts will generally make sense to young people, especially those new to the workforce, who will likely have their highest paying years ahead of them.

“It might be the best decision they make,” Lander said. “If you have the ability to capitalize your money for 20 to 30 years tax-free, that’s huge.”

Some may avoid a Roth because they assume their expenses – and therefore their tax bracket – will go down when they retire. But that doesn’t always happen, according to financial advisers.

And Roth accounts have benefits beyond tax savings.

On the one hand, savers do not need to withdraw the required minimum distributions from Roth accounts, unlike traditional pre-tax 401 (k) accounts. Savers can also reduce their Medicare Part B premiums, which are based on taxable income at retirement; Roth accounts, which generate tax-free income, can help keep income below certain thresholds above which premiums can rise dramatically.

Some advisers recommend earmarking both pre-tax and Roth 401 (k) savings, regardless of age, as coverage. About 70% of 401 (k) plans allow both, according to the Plan Sponsor Council of America.

“It’s not just about taxes, it’s about flexibility,” Lander said. “We were taught to diversify investments.

“We should diversify our tax strategy.

Despite the benefits, there are several reasons why people may not make Roth contributions.

Auto-enrollment has become a popular feature of 401 (k) plans – around 60% of plans use it. Often companies don’t set Roth savings as the default option, which means employees should proactively change their allocation.

“Where is all the new money going?” Adamas said, referring to the automatic enrollment. “Everything is in the default values.

“As far as tax treatment is concerned, it comes before tax.”

Additionally, employers that match 401 (k) savings do so in the pre-tax savings compartment.

Employees may also not be aware of the Roth option; if they are, inertia can be a stumbling block for action.

High incomes may mistakenly think that there are income limits for contributing to a Roth 401 (k), as is the case with a Roth individual retirement account. But this is not the case.

Others are hesitant because they believe Congress will change tax rules in the future and double previously taxed Roth funds, Adams said.

“They fear the government will change its mind,” he said. “I think that’s a distant concern.

“But people are very worried all the time.”