401k and Roth IRA? Supplementing Your 401(k) with a Self-Directed Roth IRA

People often wonder if there’s a benefit to having a 401k and Roth IRA. Saving for retirement should be one of the primary focuses within your overall personal financial plan. But even if you’re making maximum contributions to your 401(k) account in order to take advantage of your employer’s matching contributions or to shelter as much of your income as possible from current year income, you can still benefit from contributing to a self-directed Roth IRA.

For example, you may be able to contribute up to $5,500 (or up to $6,500 for individuals age 50 or older) to a self-directed Roth IRA, even if you’re maxing out your contributions in your employer’s 401(k) plan.

So, is having a 401k and Roth IRA worth it? Using a self-directed Roth IRA to supplement your 401(k) can be a great way to properly diversify your entire retirement portfolio. Many employer 401(k) plans have relatively limited investment options, and certainly won’t permit you to invest in real estate, private mortgages, private equity and precious metals as you could with a self-directed IRA. You can use the Roth IRA as a way to gain exposure to alternate asset classes, and to reduce your overall exposure to the kinds of risks you face in your 401(k) account.

Of course, as noted above your eligibility to make contributions to a 401k and Roth IRA will depend upon your marital status and your modified adjusted gross income for the tax year in which you wish to make the contribution. For example, if you’re single then you can make a contribution to a Roth if your income is less than $112,000, and a partial contribution if your income is between $112,000 and $127,000.

It’s significant to note that when you’re enrolled in a 401(k) program, your income (as a single tax filer) needs to be below $59,000 in order to take a full (or $69,000 to take a partial) tax deduction for any contributions that you might make to a traditional IRA. So if your income is above $69,000 but below $127,000, then you’d gain no immediate tax benefit from making contributions to a traditional IRA, but you’d still be eligible to make contributions to a 401k and Roth IRA. This means that the one point of comparison in which a traditional IRA is generally considered preferable to a Roth IRA – current year tax deductibility of contributions – no longer exists.

For retirement savers whose tax status is married filing jointly the same analysis applies, except that the relevant income level for making a fully deductible contribution to a traditional IRA is $95,000 (and $115,000 for a partial deduction), and the cutoff point for being eligible to make a full contribution to a Roth IRA is $178,000 (and $188,000 for a partial contribution). So if that is your tax filing status, then a Roth IRA is almost certainly going to be the best way to supplement your work 401(k) if your income is between $115,000 and $188,000.

The dollar amounts above are for the 2013 tax year, but they may vary in future years, so be sure to contact an IRA custodian such as Quest Trust Company to make sure you’re using the current amounts in your planning.

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