401(k) vs. IRA: The Differences and How to Choose

When it comes to saving for retirement, two popular options are 401(k) plans and Individual Retirement Accounts (IRAs). Both offer tax advantages, but they differ in several ways. Understanding these differences can help you make an informed decision about which account is right for you.

Contribution Limits

One of the key differences between 401(k)s and IRAs is the contribution limit. For 2024, the maximum contribution limit for a 401(k) is $23,500, or $31,000 for those aged 50 and older. In contrast, the contribution limit for an IRA is $7,000, or $8,000 for those aged 50 and older.



Investment Options

Another difference lies in the investment options available. 401(k)s typically offer a limited selection of investment choices, usually mutual funds, with an average of 19 options. IRAs, on the other hand, can be opened at any brokerage and offer a wider range of investment vehicles, including stocks, bonds, mutual funds, ETFs, and even real estate.

Employer Match

One advantage of 401(k)s is the potential for an employer match. According to the Investment Company Institute, 89% of 401(k) plans offer employer contributions, with an average match of 3.5% of salary. This effectively increases your savings rate. However, employer matches in 401(k) plans typically have vesting schedules, meaning you may not be entitled to the full match if you leave the company before a certain period.

Income Limits

For tax-deductible contributions, there are income limits for IRAs that do not apply to 401(k)s. Taxpayers earning above certain income thresholds are ineligible to make tax-deductible contributions to traditional IRAs or invest in Roth IRAs.

Withdrawal Rules

Early withdrawal penalties generally apply to both 401(k)s and IRAs if you withdraw money before age 59 1/2. However, with each type of account, there are different ways to receive exemptions from these penalties. Additionally, many workplace plans offer the option to borrow against 401(k) funds, while IRAs include no such provision.

In conclusion, both 401(k)s and IRAs offer tax advantages and can be valuable tools for retirement savings. The choice between the two depends on your personal financial situation, investment goals, and risk tolerance. Consider your contribution limits, investment options, employer match, income limits, and withdrawal rules when deciding which account is right for you. You may also choose to invest in both a 401(k) and an IRA to maximize your retirement savings.