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The quick answer is yes, you can have both a 401(k) and an individual retirement account (IRA) at the same time. Actually, it is quite common to have both types of accounts. These plans share similarities in that they offer the opportunity for tax-deferred savings (and, in the case of the Roth 401(k) or Roth IRA, tax-free earnings as well). However, depending on your individual situation, you may or may not be eligible for tax-advantaged contributions to both of them in any given tax year.
If you (or your spouse, if you’re married) have a retirement plan at work, your tax deduction for a traditional IRA may be limited—or you may not be eligible for a deduction, depending on your modified adjusted gross income (MAGI).
You can, however, still make nondeductible contributions. And if your income exceeds certain thresholds, you may not be eligible to contribute to a Roth IRA at all.
Key Takeaways
- If you have earned income you can put money into both a 401(k) plan and an IRA.
- In 2021, a 401(k) lets you save $19,500 a year ($26,000 if you’re 50 or over), and your company may match a portion of your contributions. That increases by $1,000 in 2022.
- With 401(k)s, investment options can be limited and fees may be high.
- IRAs offer a wider variety of investment choices, but the IRS restricts contributions to $6,000 (or $7,000) a year, and your eligibility for a tax deduction may be limited by your income.
401(k) Benefits and Drawbacks
Many companies offer 401(k) retirement savings plans for their employees. The 401(k) has relatively large contribution limits, and employers will often match some or all of the money you contribute. If your company matches contributions, putting in at least enough to get the full employer match should always be your first step. Otherwise, you are leaving free money on the table.
Investments are limited to the options offered by the plan. While many companies now provide a large and diverse menu of investment choices, some 401(k) plans are still hindered by a narrow selection and high fees.
For 2021, the total annual amount of income you can contribute to a 401(k) is $19,500; in 2022, it rises to $20,500. In both years, you can make an additional contribution of up to $6,500 if you’re age 50 or over. In some cases, your plan may restrict contributions to a lower amount.
IRA Benefits and Drawbacks
The investment choices for IRA accounts are vast. Unlike a 401(k) plan, where you’re likely to be limited to a single provider, you can buy stocks, bonds, mutual funds, ETFs, and other investments for your IRA at any provider you choose. That can make finding a low-cost, solid-performing option easy.
However, the amount of money you can contribute to an IRA is much lower than with 401(k)s. For 2021 and 2022, the maximum allowable contribution to a traditional or Roth IRA is $6,000 a year, or $7,000 if you are age 50 or older. If you have both types of IRAs, the limit applies to all of your IRAs combined.
An added attraction of traditional IRAs is the potential tax-deductibility of your contributions. But, the deduction is only allowed if you meet the modified adjusted gross income (MAGI) requirements. Also, it is subject to phase out if you have a workplace retirement plan and make above a certain amount. For single taxpayers covered by a workplace retirement plan, the phase-out range in 2022 is $68,000 to $78,000, up from $66,000 to $76,000 in 2021. For married couples filing jointly, if the spouse making the IRA contribution is covered by a workplace retirement plan, the phase-out range is $109,000 to $129,000 in 2022, up from $105,000 to $125,000 in 2021.
Your MAGI may also limit your contributions to a Roth IRA. In 2021, single filers have to make below $140,000, and married couples filing jointly must make less than $208,000, to be eligible for a Roth IRA. These thresholds increase in 2022 when single filers must make below $144,000, and married couples filing jointly must make less than $214,000 to be eligible for a Roth IRA.
Having earned income is a requirement for contributing to an IRA, but a spousal IRA lets a working spouse contribute to an IRA for their nonworking spouse, making it possible for the couple to double their retirement savings.
Which Account Is Better?
Neither account is necessarily better than the other, but they offer different features and potential benefits, depending on your situation. Generally speaking, 401(k) investors should contribute at least enough to earn the full match offered by their employers. Beyond that, the quality of investment choices may be a deciding factor. If your 401(k) investment options are poor or too limited, you may want to consider directing further retirement savings toward an IRA.
Your income may also dictate which types of accounts you can contribute to in any given year, as explained earlier. A tax advisor can help you sort out what you’re eligible for and which types of accounts might be preferable.
Advisor Insight
Stephen Rischall, CFP®, CRPC
1080 Financial Group, Los Angeles, CA
Yes, you can have both accounts and many people do. The traditional individual retirement account (IRA) and 401(k) provide the benefit of tax-deferred savings for retirement. Depending on your tax situation, you may also be able to receive a tax deduction for the amount you contribute to a 401(k) and IRA each tax year.
When you retire after age 59½, distributions will be taxed as income in the year they are taken. The IRS sets annual limits on how much you can contribute to a 401(k) and IRA. Roth IRA and Roth 401(k) contribution limits are the same as their non-Roth counterparts, but the tax benefits are different. They still benefit from tax-deferred growth, but contributions are made with after-tax dollars and distributions after age 59½ are tax-free.
