IRA vs 401(k)—Which is Best for You?

Published on September 1, 2017

Retirement isn’t what it used to be. The days when you worked for a company for 40 years, then got a pension, Social Security, and a gold watch are long gone. Today, nobody expects to work for the same firm their whole career, most companies don’t have pensions­—and who needs a watch anyway? Worse, most of us know that Social Security alone is not going to give us the retirement income we need—even if it’s still around 40 years from now.

If you want to retire someday, you need to make that happen yourself. One common question is—what’s the best option: an IRA or a 401(k)? The answer is: over time, you’ll probably use both.

IRA vs 401(k): What’s the Difference?

A 401(k) is a retirement savings plan your employer offers and you can contribute to. (Note: 403(b), 457, and Simple plans are similar plans.) With these types of accounts, the company you work for picks the plan and the list of investments (usually mutual funds) you can choose from.

Conversely, an IRA (or individual retirement account) is opened and controlled by you. Most financial services firms offer them, and you can use them to invest in almost anything you want.

Both offer tax-deductible contributions and tax-free growth (i.e., you won’t be taxed on them until you retire). IRAs have a Roth option—where your contributions are taxed, but your income in retirement is tax free. Now, more and more 401(k) plans are also offering a Roth option.

When Should You Use a 401(k)?

Well—if your company offers one—and:

1. If your employer matches your contributions.

If your company matches any part of your contribution, you should at least contribute enough to get the maximum employer match.

2. You can afford to contribute more than you can to an IRA.

If you are under 50, you can only put $5,500 in an IRA, but up to $18,000 in a 401(k). After you turn 50, you can add an additional $1,000 to an IRA, but $6,000 more to your 401(k).

3. When your income is too high

Above certain income levels, you can’t deduct a traditional IRA contribution or even contribute to a Roth IRA. How much income is that? That’s a complicated question that is best answered by our IRA calculator. It can tell you what IRA plans you can use.

When Should You Use an IRA?

1. When you leave your company.

If things come to an end, and you move on—don’t leave your retirement money behind! It’s easy to lose track of old plans, and companies can merge or even go out of business. Then it can become a real hassle to find your money and get it out. Yes, you can usually roll this money into your new company’s plan, but rolling it into an IRA will give you more control over your investment choices.

2. If your 401(k) investment choices stink.

If you have a good mix of mutual funds in your 401(k), or even some target date funds and low-fee index funds, your plan is probably fine. But, some plans have very limited investment options, or are so confusing that people can’t make a decision and end up in the default investment—a low interest money market fund. If this is the case, you might want to limit your contributions to the amount needed to get your full employer match and put the rest in an IRA.

3. When you are between jobs.

Not every company has a 401(k), and people are not always employed. There may well be times in your life when your IRA is the only option. If you have self-employment income, you can make higher contributions to a SEP IRA or a Solo 401(k) you set up for yourself.

4. If you can “double dip.”

If you have a 401(k), are eligible for a Roth IRA, or can deduct contributions to a traditional IRA, and you can afford to contribute to both—do it! The more you can save now, the happier your 65-year-old self will be. Once again, ask our IRA calculator if can double dip. Just remember that the IRA contribution limit is for the total contributed to both a Roth and traditional IRA.

The real question is not: IRA vs 401(k), but rather—which of these is the best place to put each year’s contributions? Both are great and most people will use them both over their working lives.

Not sure what the right account or investment strategy is for you? SoFi Wealth advisors are available to offer you complimentary, personalized advice. Consider working with a SoFi Wealth advisor today.



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