Can I Have a 401k and an IRA?

The Short Answer: Yes you can!

Key Points:

  • If you have a 401k at work you can ALSO have a Traditional or Roth IRA.
  • Contributions to your 401k do not affect how much you can put in your Traditional or Roth IRA.
  • 401(k)s are provided by your employer.
  • Traditional or Roth IRAs are provided by banks or financial institutions. 

Point of Clarification:

Participation in your company's 401k plan can affect the tax deduction that you're allowed to take on the amount contributed to your Traditional IRA. Click Here for Deduction Limits

Contributions to a Roth IRA are not tax deductible since you've already paid taxes on those dollars. It's important to keep track of your Adjusted Gross Income (AGI) when contributing to a Roth IRA.

For example if you're doing well at work and earning more than the amounts below, you CAN NOT contribute to your Roth IRA: Read More at the IRS website 

  1. Married filing jointly: >  $188,000
  2. Single: > $127,000

Earning "too much" money is only applicable to a Roth IRA account. Traditional IRAs and 401k plans do not have eligibility limits based on your income. However, the government does limit the amount you can contributed to retirement accounts each year.

Contribution Limits:

Contributions Limits for a 401(k) - (2013 and 2014)

  • $17,500
  • $23,000 if you're 50 and over

Traditional and Roth IRA Contribution Limits - (2013 and 2014)

  • $5,500
  • $6,500 if you’re age 50 or older, or
  • your taxable compensation for the year.

Should I have a 401k and an IRA?

The widespread consensuses in the financial planning community is that a 401k plan is the best place to start when it comes to saving for retirement. The key factor is the employer match.

A common match would be 50 cents for each dollar contributed up to 6 percent of your salary. 

For example: If Nancy is earnings $50,000 dollars per year and contributes 6% of her salary, she would save $3,000 dollars. She would also get $1500 dollars from her employer for a yearly total of $4,500.

  • Find out the details of your employer match.
  • Contribute enough to get the maximum amount from the employer match program.
  • Think of the employer match as a 100% return on your investment.

 

I'm maxing out the company match and I can afford to save more. Should I put it in my 401k or IRA?

There is no right or wrong answer here. It depends on your circumstances, investment style, and how much time you want to spend on your finances each year. 

Ask yourself, "What choice will be easiest for me to save money and invest twice a month, every month, for the rest of the year."  If you don't have the discipline to save, invest and keep track of another retirement account, then make the easy call and stick with your 401k.

Pros for adding to your 401(k):

  • Convenience - the money comes right out of the your paycheck and goes into the investment choices you've already made. 
  • A single account to keep track of - your time is valuable and there is a lot to be said for a single portfolio to manage.
  • No transaction fees - buys, sells and re-balancing of your portfolio is typically free of charge for your 401k mutual funds. 

Cons

  • Management fees - check to see if there is a yearly management fee for your 401k account. It can be a fixed amount or a percentage of your invested assets. If it's above 1%, it's extremely high. 
  • High expense ratios for mutual funds - even low cost index funds can have yearly expense ratios that are significantly higher than the industry average. If you're paying more than .25% for an index fund, you're paying a lot.
  • Limited investment choices - the funds available can be a mixed bag of good, bad and ugly. Great low cost ETFs and mutual funds might not be available in your 401k.  

Pros for adding to your Traditional or Roth IRA:

  • Choice - You have way more options when deciding how you want to invest your money. You can also select individual stocks, which are not allowed in 401(k)s outside of shares in the company that you work for.
  • Cost - Too many 401(k)s are stuffed with expensive mutual funds. It's easier to access thousands of great low cost investment options in a Traditional or Roth IRA. 
  • Flexibility - You can really control asset allocation and easily target your portofolio's weight in cash, bonds, stocks, real estates, and even commodities should you like.

Cons

  • Complexity - You have to manage and keep track of additional funds, ETFs or stocks. Managing and balancing your overall asset allocation across multiple accounts can be difficult.
  • Cost - You can save money by accessing cheaper funds and stocks but you'll likely have to pay transactions fees for the purchases or sales of securities. Small amounts can add up fast.
  • You are your greatest enemy - being disciplined and consistently saving is the key to success. If your IRA contributions aren't automatic and you don't make them, you're missing out on the power of compound interest.

Key Takeaways:

  • Max out your 401(k) employer match each year.
  • Participation in your company's 401k plan can affect only the tax deduction for contributions made to a Traditional IRA.
  • There is no right or wrong choice when deciding to save more in your 401k or IRA account.
  • Think Occam's Razor and focus on the account that makes investing a habit.