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Main difference between pre-tax and Roth contributions [Bonus SECURE 2.0 Act update inside]

difference between pre tax and roth

As more employers offer a Roth 401(k), it’s important that you know the main difference between pre-tax and Roth contributions. In this post, we’ll explain what each contribution is and how to decide the best option. We’ve even included the most recent SECURE 2.0 Act update, so you can stay up-to-date on Roth deferrals.

What is the difference between pre-tax and Roth contributions?

It can be tricky to choose between a pre-tax contribution vs. Roth 401(k).

Roth and pre-tax contributions are two different ways to save for retirement in an employer-sponsored retirement account (401(k), 403(b), etc.). Each has its own tax implications and considerations.

Pre-tax contributions 

Pre-tax contributions allow individuals to contribute to retirement savings before taxes are taken out of their paycheck. Since taxes are deferred up front, the contributions and earnings in the account are taxed as ordinary income when the individual withdraws them during retirement.

Roth contributions

On the other hand, Roth contributions are made with after-tax dollars. This means taxes are paid on the contributions before deposited into the account. The money grows tax-free, and qualified withdrawals during retirement are also tax-free.

Employer 401(k) vs. Roth IRA

When an employee is allowed to make Roth contributions to their employer-sponsored retirement plan, it does not establish a separate Roth individual retirement account. An IRA is an account that is opened and managed independently by an individual, whereas plans like 401(k) or 403(b) are always employer-sponsored. A 401(k) or 403(b) allow Roth contributions in addition to or in lieu of pre-tax contributions, as mentioned above.

Key differences between a Roth IRA and a Roth 401(k)

Both a Roth IRA and a Roth 401(k)/403(b) are retirement savings accounts that allow your money to grow tax-free, but there are some key differences between the two:

  • A Roth IRA is a retirement account that you open and manage on your own, separate from your employer.
  • A Roth IRA does not allow contributions to be automatically deducted from your paycheck; 401(k)/403(b) plans allow contributions to be automatically deducted from your paycheck.
  • Roth IRA contributions have income limits, whereas there is no income limit on Roth 401(k)/403(b) contributions.
  • While the maximum contribution limit for a Roth IRA is $6,500 (or $7,500 if you're 50 or older), the maximum contribution limit for a Roth 401(k) is higher (currently $22,500 if you're under age 50 and $30,000 if you're 50 or older).*

There are many ways to save for retirement. It’s important to do your research and make the choice that is best for you.

Secure 2.0 Act update

A key component of the SECURE 2.0 Act has renewed conversation on Roth deferrals in retirement programs. Originally slated to begin in 2024, catch-up contributions for employees who have exceeded the salary threshold in the prior year will be required to be made as Roth contributions. After the industry raised significant concerns about its ability to effectively implement and administer the provision, the DOL approved a “transition period” until Jan. 1, 2026.

This applies to all participants who made over a certain dollar amount (to be determined) in the prior year for taxable years starting after Dec. 31, 2025. That limit will be indexed, so it will be updated annually. Plans that don’t currently allow for Roth contributions will need to be amended to allow for Roth deferrals if they wish to continue offering catch-up contributions. Your consultant and/or recordkeeping partners can help you work through these significant changes and their potential downstream effects.

Have questions about Roth retirement options or the SECURE 2.0 Act? Reach out to HANYS Benefit Services for guidance and to learn how we can enhance your organization's retirement offering. Also, be sure to check out our two-part SECURE 2.0 Discussion Series, containing SECURE 2.0 Act Session 1 and SECURE 2.0 Act Session 2.

 *Limits for 2023

HANYS Benefit Services is a marketing name of Healthcare Community Securities Corp., member FINRA/SIPC, and an SEC Registered Investment Advisor. This material has been prepared for informational purposes only and is not intended to provide, and should not be relied on for, tax, legal or accounting advice. The information in this piece is not a recommendation to invest nor should it be relied upon as instruction to invest.

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