IRA vs. 401(k): Where Should Your Money Go in 2023?

Saving for retirement is essential. If you don’t gather a substantial nest egg during your working years, you’re almost certain to struggle to cover your bills once you wrap up your career and stop collecting paychecks.

Now, when it comes to retirement savings plans, you have choices. Among the most common is the 401(k). If your employer sponsors a 401(k) plan or something similar, you can opt to put money into it. Otherwise, you can house your retirement savings in an IRA that you open and manage independently.

But which account is right for you? Here’s how to figure it out.

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Step No. 1: See if you’re eligible for a 401(k) match

Many of the employers that offer 401(k) savings options also match worker contributions to some degree. If you’re entitled to a 401(k) match, then you should absolutely put enough money into your employer’s plan to claim that free money in full. There’s also a tax benefit: Contributions are pulled from your paychecks on a pre-tax basis, thus lowering your taxable income for that year. However, beyond the point where you’ve maxed out your employer match, you may want to put some of your retirement savings elsewhere.

So, let’s say your employer will give you a 100% match of up to $5,000 worth of 401(k) contributions each year. In that case, your first $5,000 in retirement savings each year should go into your 401(k), because that will give you another $5,000 for free. But from there, you could take whatever other funds you intend to save for retirement and route them into an IRA — if that’s what you prefer.

Step No. 2: Figure out if a Roth 401(k) is available to you

The downside of contributing to a Roth retirement plan is that your contributions are made with after-tax dollars, and you get no immediate tax benefit from making those contributions. But the upside of investing through a Roth retirement plan is that when you take withdrawals from it during retirement, the money comes out tax-free. That’s a nice benefit to have during a period of your life when money may be getting tight.

If that tax benefit down the road appeals to you, do your research and find out if your employer’s 401(k) comes with a Roth option. In recent years, many companies have begun to offer a Roth 401(k) option, but that isn’t guaranteed. If yours doesn’t have a Roth option, you may want to put some of your money into a Roth IRA instead, assuming you don’t earn too much money to fund one directly.

Step No. 3: Decide how you want to invest your money

The money you set aside for retirement should be invested so that it can grow over time. With many 401(k) plans, your choices for how to invest your money will be limited to a relatively small number of mutual funds and exchange-traded funds chosen by your employer. So if you want the option to hand-pick your own portfolio of stocks and funds to invest in for retirement, then an IRA may be a better bet.

On the other hand, among the common options offered to 401(k) investors are target-date funds and index funds. These are both good options for savers who don’t want to be bothered with making all their own investment decisions at the granular, individual stock level (or don’t feel confident enough to do so). And of the two, index funds tend to charge lower fees, which is one reason they may be a better bet.

Putting money away for retirement is a great thing to do in 2023 — no matter where you decide to house your savings. But these tips can help you figure out if you’re better off contributing to a 401(k), an IRA, or both.

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