SummerInternship #401k #RothIRA
To 401k or Not to 401k: A Guide for Summer Interns
So you’ve just started your summer internship and you’re thinking about what to do with your paycheck. Should you contribute to the 401k offered by your company or look into other long-term savings options like a Roth IRA? Let’s break it down and explore the pros and cons.
Pros and Cons of Investing in a 401k
Pros:
- Tax advantages: Contributions to a traditional 401k are made pre-tax, reducing your taxable income.
- Employer matching: Some companies offer a matching contribution, essentially free money for your retirement savings.
- Automatic savings: Contributions are deducted directly from your paycheck, making it a convenient way to save for retirement.
Cons:
- Limited investment options: 401k plans have a set menu of investment choices, which may not align with your preferences.
- Penalties for early withdrawal: If you withdraw funds before the age of 59 1/2, you may face penalties and taxes.
Exploring the Roth IRA Option
Pros:
- Tax-free growth: Contributions to a Roth IRA are made with after-tax dollars, but qualified withdrawals in retirement are tax-free.
- Greater flexibility: You can choose your own investments in a Roth IRA, giving you more control over your retirement savings.
Cons:
- Income limits: Not everyone is eligible to contribute to a Roth IRA, based on annual income thresholds.
- No immediate tax benefits: Unlike a traditional 401k, contributions to a Roth IRA are made with after-tax dollars.
Making the Decision
Now that you have a better understanding of the options, consider the following factors when making your decision:
- Employer Matching: If your company offers a matching contribution to the 401k, it’s essentially free money that can boost your retirement savings.
- Tax Considerations: Think about your current tax bracket and how it may change in retirement.
- Investment Preferences: Consider your risk tolerance and investment goals when choosing between a 401k and Roth IRA.
- Long-Term Financial Goals: Evaluate your overall financial plan and how retirement savings fit into your future.
Conclusion
Ultimately, the decision to contribute to a 401k or a Roth IRA depends on your individual financial situation and goals. Take the time to educate yourself, seek advice from financial professionals, and make an informed choice that aligns with your long-term objectives. Remember, it’s never too early to start saving for retirement, and your summer internship is a great opportunity to kickstart your financial future.
Other than the employer match, the other benefit of a 401K is you reduce your taxable income and don’t pay any taxes on contributions or earnings until withdrawal.
If you’re going to be able to save $7,000 or less this year, I’d do it in a Roth IRA. Your taxes are likely to lower now (AGI under $11,600 pays 10% tax and $11,601 – $47,150 pays 12% tax) than they’ll be at any point when you’re working full-time, and then you won’t have to worry about rolling the 401K into an IRA at a later date. In retirement, you can withdraw all of your earnings tax-free.
Unless you’re in a very high-paying internship and plan to be able to save more than $7K, then it could be worth it to sock as much money into the 401K as you can (up to the $23,000 match), and then after you’re no longer employed, roll that into a Traditional IRA and you’d still have the opportunity to convert it to Roth if you want.
401k is not taxed when deposited, but taxed when withdrawn. Roth IRA is taxed when deposited, but tax free when withdrawn (including the capital gains, which is huge).
Generally 401k is better when you are in a higher tax bracket and get some amount of matching. But as an intern I’m guessing you’re in a low tax bracket and you’re getting no match, so Roth IRA is likely the better choice.