The Variables in Playing Catch-Up on Your 401(k)
by Kelly Greene
Thursday, January 3, 2008
provided by The Wall Street Journal


Both my husband and I are in our early 50s and participate in our company's 401(k). My account is slightly smaller than my husband's. We have some additional funds and are wondering whether to open a Roth IRA or make a catch-up payment to my 401(k) account. What would be best for our future retirement?



As you may have guessed, the answer depends on a few more variables.

First question: Does your 401(k) plan match some, or all, of your contributions? If so, you should make a high enough 401(k) contribution to capture all matching funds. To get you to sock away a chunk of your pay in a 401(k) or other defined-contribution plan, your employer typically will offer to match your savings -- often by 50% for contributions of as much as 6% of your pay. So, if you put $60 of a $1,000 paycheck into your account, your company would kick in $30. A lot of workers misinterpret the math, mistakenly thinking they can put in 3%, or $30, and the company will match it by 100%.

You can also miss the match by stashing away large portions of your salary early in the year, because many employers only make the match paycheck to paycheck. So, if you put the entire $1,000 paycheck in your 401(k) in January, for example, your employer's match would be a one-time amount of $30, rather than $30 each pay period. A few companies offer a safety net: Through what is called a "true-up" provision, a company's retirement plan will tally an employee's contributions at the end of the year to see if the plan has matched the total percentage promised. If not, the company kicks in the rest.

The 401(k) contribution limits for 2007 and 2008 are generally $15,500, plus an additional $5,000 in catch-up contributions for people age 50 and older. (You can look up those limits and additional information at www.irs.gov.)

Once you have taken advantage of any company match, "it's probably better to contribute to a Roth -- if you have to choose," says Twila Slesnick, an accountant in Loveland, Colo., and co-author of "IRAs, 401(k)s & Other Retirement Plans." With a Roth individual retirement account, you make after-tax contributions, and your earnings are eventually tax-free. You can contribute up to $5,000 to a Roth IRA this year if you are 50 or older, though you can't make a full contribution to a Roth IRA if your income exceeds $99,000 for a single filer, or $156,000 for a joint filer.

The reader and her husband are "young enough that the tax-free growth in the Roth will eventually exceed the benefits of the 401(k) contributions," Ms. Slesnick says.

That is because future Roth withdrawals wouldn't be taxed, but 401(k) withdrawals would (unless you are one of the lucky few workers with a Roth 401(k), a relatively new retirement-savings tool). A regular 401(k) requires regular withdrawals eventually -- but you can keep your savings in a Roth IRA as long as you wish.

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