Thursday, August 1, 2013

What's the difference between an IRA and a 401(k)?

I think most people know that IRAs and 401(k)s are forms of retirement savings accounts, but not as many people could tell you the difference between the two.
Here's my little guy, "saving for a rainy day." You better believe once he can start earning money we'll help him set up a Roth IRA.
And sure, we could go in to lots of details and specifics, but, in general, it's pretty straightforward.

What's the big difference? The big difference is that a 401(k) is an employer-sponsored plan. Check where you work to see if there is a plan in place for you to contribute to. An IRA, on the other hand, stands for Individual Retirement Account, meaning you set it up yourself.

Which one's better? It's hard to say one's better than the other. The 401(k) has the advantage of already being set-up for you. Also, employers frequently match your contributions (free money!!!!!!) But IRA's are very simple to set up. Since contributions to each are limited, in a perfect world you would have one of each and max out your contributions to both your 401(k) and to your IRA.

How much can I contribute to an IRA? Let's keep it basic. If you're under fifty, generally $5,500 per year. If you're over 50, generally $6,500.

How much can I contribute to a 401(k)? Again, we're staying basic.  If you're under fifty, generally $17,500 per year. If you're over 50, generally $23,000. If your employer matches, your contributions plus theirs can't be more than $51,000 or how much you made that year (whichever's less).

Pop quiz! Which code section in the Internal Revenue Code discusses 401(k)s? 401(k). Now if only memorizing all the code sections were that easy (not going to lie, I had to memorize hundreds of code sections for this tax competition). What's that, you say? You didn't know there were tax competitions? Don't worry-- I think the only people that know about them are the participants and their parents. But, for the record, we won 1st place in the nation. Just thought I'd throw that out there...

My moment of glory. Don't judge. We are also trying to coerce the smart girl to the right of me to do some guest posts.

I promise you, these tax things are real and awesome! 
Tell us -- What terms do you want defined?


  1. Thanks for the post. I just stopped working to stay home with my little guy, and they suggested I roll my 401k into an IRA at my bank. I was just about to look up the differences, and BAM! Here they are! Thanks a bunch! I think you ladies are awesome.

  2. I've been thinking about this exact thing lately. I have some money in a 401(k) from when I worked and I'm not working anymore so I have to set up an IRA and transfer it over. But I got stuck when I had to choose between a Traditional IRA and a Roth IRA. What's the difference between those?

    1. Great question! I actually started writing a post about that, and then thought I should address the IRA 401(k) thing first. The main difference is that with a Roth, you contribute with after-tax dollars and then when you take the money out you don't have to pay taxes on it (since you already did when you put them in). The traditional is the opposite (deduct your contributions, pay taxes on your withdrawals). Generally we prefer Roth for young couples since we're assuming you're in a lower tax bracket now than you will be later in life. I'll do a better job explaining in our post on this (when I'm not typing on an iPad :-) )

  3. I was sure I set up a 401k years ago when I started my first job, but not sure. How can I find out if I did, and where that money is?

    1. Hmmmm... good question. My guess is it will probably take several phone calls. Maybe the best place to start is with the Human Resources (or whatever they call it) department at the place you worked.

  4. Thanks! I'm excited that you guys have started this. I didn't know this, I'm ashamed to admit. And I've had "get a retirement started" on my NYR list for like 3 years.

    Looking forward to the post about different types of IRAs. Hopefully Roth v. Traditional and pros and cons of both.


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