Answer
The primary difference between a traditional 401(k) and a Roth 401(k) lies in the tax treatment of contributions and withdrawals. Traditional 401(k) contributions are made with pre-tax income, reducing taxable income in the contribution year, while Roth 401(k) contributions are made with after-tax dollars, meaning no upfront tax deduction but tax-free qualified withdrawals in retirement.
Tax Implications at Contribution With a traditional 401(k), contributions lower the employee’s current taxable income. For example, an employee earning $80,000 who contributes $10,000 reduces their taxable income to $70,000. In contrast, Roth 401(k) contributions do not reduce taxable income, so the full $80,000 remains taxable in the year earned.
Withdrawal Rules and Taxation Traditional 401(k) withdrawals are taxed as ordinary income during retirement. Roth 401(k) withdrawals are tax-free if the account has been held for at least five years and the individual is age 59½ or older. Both plans require minimum distributions starting at age 73 under current IRS rules, though Roth IRAs do not have RMDs during the owner’s lifetime.
Both account types have the same contribution limits and employer matching rules, making the choice largely dependent on expected future tax rates.