As an adviser, you will often be asked by clients to opine on strategic decisions that lay the
Nearly 90% of employers provide a Roth option, named after the late Sen. William Roth (R-Del.) who was a huge proponent of expanding
At a very basic level the main difference between these two retirement savings vehicles is that a traditional 401(k) offers plan participants the opportunity to contribute to their investments on a pretax basis. The money comes directly from their pay before taxes and minimizes that tax burden. Post-tax contributions from a Roth account will accrue tax-free. Contributions and earnings are taxed at the normal tax rate for traditional plans, while the Roth grows tax-free as long as distributions are taken in accordance with plan rules.
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Consider the following when helping clients guide their employees through the process of choosing a plan that best suits their needs:
Current need for income
Some people want to take advantage of contributions to a traditional 401(k) to minimize taxes on current income and put that money aside. If they don't have as much need for cash flow, they could choose the Roth and pay the taxes now so they're tax-free in the future.
Tax bracket
Depending on what the participant believes he or she will have as a tax bracket in the future, it may make sense to delay qualified distributions (the traditional route) if overall earnings will be lower. If the participant believes they still will be earning at a high rate, then paying taxes now with a Roth might be most advantageous.
Timing for needing the money
If an employee is close to retiring and can plan on enough coming in from other income streams such as Social Security or a pension, a Roth 401(k) might be more attractive. Under the SECURE 2.0 Act of 2022, Congress mandated that retirement plan owners must take a set amount out of their plans each year. Therefore, if a plan participants isn't in need of the money, he or she could leave it to accrue interest and grow for their heirs over the longer term.
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In many cases, employer plans offering a traditional 401(k) will allow participants at some point to convert to a Roth 401(k) if they decide down the road that paying the taxes upfront is important. With any employer-sponsored 401(k), it's also important to check the rules on loan provisions and the employer match to ensure the right choice is being made.
As for an HSA, only those in a high-deductible health plan (HDHP) are eligible to participate. They are also typically higher earners and might not reach the cap to take advantage of the health benefits available to them, especially if they have fairly normal medical expenses. The government allows employees to contribute to an HSA and build separate savings to address healthcare throughout their career and even into retirement.
Depending on how they contribute, the money may go in pretax or may be tax deductible when they file. In most cases, if made through payroll deductions, that money goes in pretax and lowers overall taxable income. If an employee contributes after receiving the income, his or her contributions may be 100% tax-deductible, meaning contributions can be deducted from gross income on the individual's tax return.
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Like most tax benefits, HSAs do have limits on contributions. For the remainder of 2024 the limits are $4,150 for an individual and $8,300 for a family. Funds must be used for a minimum amount of self-coverage in order for it to be considered as legitimate. In 2025, HSA contribution limits will rise to $4,300 for an individual and $8,550 for a family.
The bottom line is that employees must meet a threshold for medical expenses, and as such, be mindful of current-year minimums. Despite lower premiums with an HDHP, it could be difficult even with money in an HSA to generate the immediate cash needed to meet the deductible for a costly medical procedure.
Also, keep in mind that the closer someone is to retirement age, the more beneficial an HSA can be because they are building a medical emergency fund in a tax-advantaged account.
Whichever direction employees gravitate to on their retirement savings, they will need a helping hand deciding whether to go with a traditional or Roth 401(k) plan.
