For those with a basic understanding of Roth IRAs, the concept of a Roth 401k should be pretty straightforward.
The Roth 401k allows savers to have tax-advantaged savings deducted from their paychecks and invested in a manner that is just about the same as traditional 401ks. As with their IRA counterparts, the big difference between the Roth and traditional 401k is that the Roth allows earnings on those contributions to grow tax-free, whereas they are taxed when withdrawn from a traditional 401k.
Of course, the chief downside to earning that indefinite tax protection is the fact that after-tax dollars are used for the initial contributions. This negates one of the key attractions associated with 401k plans - the fact that funds contributed to the plan are protected from taxes at the time of the contribution. Whether or not it’s worth foregoing that tax advantage to gain the benefit of eternal tax-free earnings depends on your situation.
Income and Contribution limits
Contribution limits for the Roth 401k are the same as those for traditional 401k plans. For 2011, that means that individuals can contribute up to $16,500 or 100% of their earnings. Taxpayers over 50 can contribute up to $22,000.
A big advantage that the Roth 401k has over the Roth IRA is that there are no income limits for contributions to the 401k version. That makes the Roth 401k especially suitable for higher-income earners.
Early withdrawal rules
Loans and early distributions are treated in the same manner as traditional 401ks. You should talk to a plan administrator to ensure you understand the implications of early withdrawals from your specific plan.
What about employer matches?
The employer match is basically the same as a traditional 401k. The important thing to note is that employer contributions are made with pre-tax dollars, so taxes will be due when those funds are withdrawn. That obviously doesn’t cancel out the attractiveness of free money from your employer, but it has to be taken into consideration for planning purposes.
Much like the standard 401k-to-IRA rollover process, Roth 401ks can be rolled to Roth IRAs when employment is terminated.
Perhaps the biggest obstacle to participation in Roth 401k plans is the fact that relatively few employers offer them. That is changing, but if your employer doesn't offer the option...ask them why not.