It's important to build up savings for retirement. And the sooner you do, the better.
Once your career wraps up, you might struggle immensely if you're forced to retire on Social Security alone. And so the more money you have in savings, the more financial flexibility you'll get to enjoy later in life.
Now, if you want a retirement plan that offers you the option to make larger annual contributions, you may want to favor a Roth 401(k) over a Roth IRA. Both plans allow for tax-free gains on invested funds and tax-free withdrawals. But Roth 401(k)s currently max out at $22,500 for savers under 50 and $30,000 for those 50 and over. Roth IRAs, on the other hand, max out at $6,500 for younger savers and $7,500 for those 50 and over.
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Roth IRAs also bar higher earners from contributing directly. With a Roth 401(k), there are no income limits to worry about.
Still, for many years, Roth IRAs held one major advantage over Roth 401(k)s -- they were the only tax-favored retirement savings plan to not impose required minimum distributions (RMDs). But a new rule change will make it so that starting in 2024, Roth 401(k)s will no longer impose RMDs, either. And that could be a real game-changer.
When you want complete control over your money
RMDs are still required for traditional IRAs and 401(k) plans. And the penalty for not taking them is harsh -- though less harsh than it used to be, as it was recently reduced from 50% to 25%.
Now when you're forced to take an RMD from a traditional IRA or 401(k), it immediately creates a tax liability for you. That was never the case with Roth 401(k)s, since withdrawals from any Roth account are tax-free.
But still, the idea of having to remove funds from your savings may not sit well with you, even if you're not required to pay taxes on those distributions. After all, it's your money. If you want to keep it invested in a tax-advantaged manner and perhaps leave some to your heirs, shouldn't that be your right?
The good news is that beginning in 2024, Roth 401(k) won't force savers to take RMDs. Now if you already have a Roth 401(k) and are old enough to be on the hook for an RMD this year, you have to take it or otherwise risk a penalty. But starting next year, that won't be the case.
This also means that if you've avoided putting money into a Roth 401(k) in the past because you didn't like the idea of having to take RMDs, that's longer an issue. So you may want to consider funding a Roth 401(k) if that's an option through your employer's retirement savings plan.
Will RMDs go away completely?
It's unlikely that the IRS will do away with RMDs for traditional retirement savings plans. The reason is that unlike Roth accounts, traditional retirement savings plans give you an up-front tax break on your money. So the IRS is inclined to want you to take withdrawals from your savings in your lifetime so that it can collect some tax revenue from you during your senior years.
That said, the rules around RMDs in general have gotten a little more palatable. In addition to lower penalties and not having to take RMDs in a Roth 401(k), the age at which RMDs kicks in is being pushed back from 72 to 73, and then eventually to 75. So even if you save in an account that's subject to RMDs, you'll have the option to leave your money untouched a little longer.
