401k vs. IRA

Planning for your retirement can be an overwhelming task when presented with all the alternatives available. Some people invest in mutual funds while others invest in whole life insurance policies. Then there are those who choose to run with a traditional 401k or an IRA. The problem is that most of these investment products come with both advantages and disadvantages that need to be considered. Two of the most common retirement investments are 401k plans and IRA’s. If you are debating which of those would best suit your needs, here is a brief rundown on 401k vs. IRA investment schemes.

Brief Explanation of a 401k
A 401k plan is an employer sponsored plan in the United States that allows an employee to set aside a certain amount from their wages to be placed into a retirement investment account. One of the greatest benefits of this type of retirement investment plan is that income taxes are deferred on the portion of income being placed into the account until such time as that money is withdrawn. Another reason why many people prefer 401k retirement plans is that the employer also makes a contribution based on the amount contributed by the employee. Many employers put a cap on the amount which employees can contribute or on the amount which they will match in order to make it cost effective to offer such a plan.

What is and IRA?
Similar to a 401k retirement plan, an IRA is also tax deferred until money is withdrawn. Withdrawals are set to begin no earlier than age 59 1/2 but if an individual chooses to withdraw funds any earlier than that a 10% penalty will be imposed. The main difference between an IRA and a 401k is that an IRA is not offered by employers but can be purchased at a bank, a brokerage or as a mutual fund. Unfortunately, if an individual participates in any type of tax deferred pension plan at work, he or she is not eligible to participate in an IRA. Certain other restrictions also apply such as contributing on a non-deductible basis. This type of contribution is considered as a deduction against income and any interest is taxable at the time when they are withdrawn.

Rolling Over Funds from a 401k to an IRA
While it is possible to roll over funds from a 401k to an IRA as the person nears retirement age, sometimes this is not always a wise decision. Of course it is easier to tap into funds from a 401k if they are needed but an IRA is a much more flexible investment opportunity. It is imperative to carefully consider whether or not to roll over your 401k into an IRA because a wrong choice could prove disastrous resulting in a significant loss. Experts advise that before you roll over your 401k funds to an IRA take a good long look at the tax consequences that would eat into your retirement savings.

One thing to keep in mind is that if you are not employed at a company that offers a 401k pension plan then the only option you would have available to you would be an IRA. If this is the case then there is no question which is a better option for you. However, if you have been contributing all along to a pension plan at work with matching funds from your employer, then it might be in your best interest to continue investing in that 401k simply because of the additional contributions being made by your place of employment. The real dilemma in a case like this is when you reach retirement age. If you are in doubt as to whether or not to roll over your 401k to an IRA, consult a financial advisor who is equipped to help you decide which option will provide the highest yield.

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