Can I Max Both a 401k & an IRA?
When you contribute to a 401k plan, you are contributing to your future retirement. However, you may also want to put away additional money for your retirement. Because both the 401k plan and the IRA are retirement plans, you must understand the rules for maxing out contributions to both types of plans.
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Process
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When contributing to both a 401k and an IRA, you are normally unable to deduct the contributions for the IRA. You can still contribute to the IRA, however. Contributions from a 401k are deducted from your paycheck prior to taxes being taken out. Contributions to traditional IRAs are made at any time by a transfer from your bank account to your IRA.
Significance
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The significance of maxing out both your 401k and your IRA is that you are making contributions to two different types of retirement plans. The additional contribution to your IRA plan is still tax-deferred when the money is inside of the plan. The 401k contributions rules, however, generally prohibit taking a deduction for contributions to an IRA. Any gains are taxed when you make withdrawals (for traditional IRAs). Roth IRAs still receive tax-free withdrawals.
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Benefit
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The benefit of maxing out both types of retirement plans is that you are contributing more money to your retirement than if you just contributed to your 401k plan. This may yield additional retirement income for you.
Disadvantage
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The disadvantage to maxing out both 401k and IRA plans is that you won't be able to deduct the contributions to your IRA. Because of this, less of your income is deferred and invested in your IRA account.
Considerations
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When contributing to both a 401k and an IRA, consider contributing to a Roth IRA. Since you won't be deducting IRA contributions, a Roth IRA may be ideal. Roth IRAs will allow you to make the maximum contribution ($5,000 per year) and receive your withdrawals free of income tax.
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