Can I contribute to a Roth 401(k) if I earn a high salary?

By Dan Moisand

The rules are different for Roth IRA and Roth 401(k) accounts

Dear Dan,

I keep seeing things about Roth 401(k) accounts but aren't you cut off from a Roth if you make over $200k?

- Wondering in Waco

Dear Wondering

The ability to contribute to a Roth 401(k) is not limited due to income. The income limit comes into play when contributing to a Roth IRA. A Roth IRA and a Roth 401(k) share many similarities, but they are two separate types of accounts.

Eligibility to contribute to a Roth IRA is subject to an income "phaseout range" of $146,000 - $161,000. Single taxpayers that have a Modified Adjusted Gross Income of more than $146,000 in 2024 will not be able to make a full $7,000 contribution. The higher their MAGI, the less they can contribute. Once the single filer's MAGI hits $161,000, no direct Roth IRA contribution can be made. The phaseout range for Married Filing Jointly households is $230,000 - $240,000 for 2024.

MAGI is not just salary. It includes items like dividends, interest, capital gains, rental income, self-employment income, taxable alimony, Social Security, pensions, annuity income, and a few more things. The AGI is then adjusted or "modified" further to get to the MAGI. See Worksheet 2-1 of IRS Publication 590-A for the calculation process.

Today, plans are not required to offer a Roth option. Workers with a 401(k) that includes a Roth account, may contribute as much as $23,000 to the Roth 401(k) account through "elective deferrals" regardless of their household income. Those turning 50 or older in 2024 can defer an additional "catch-up" contribution of $7,500 for a total maximum of $30,500.

There is no current year tax benefit to making Roth contributions because they are made with after-tax dollars. The benefit comes later when funds are distributed from the account. If all criteria are met, all of those distributions will be tax-free.

This "pay tax now, pay no tax later" dynamic is valuable to those who anticipate being subject to a higher tax rate in the future when distributions are made. Conversely, Roth contributions will be detrimental to those who are in a lower tax bracket when distributions are made.

In addition to elective deferrals, starting this year, fully vested participants may elect to direct employer contributions such as matches to the Roth account as Roth contributions. These employer contributions are not deemed wages and are therefore exempt from payroll taxes. There will be no tax withholding either.

However, don't forget Roth contributions are made after-tax so these contributions are not tax-free. Instead of being included on an employee's W-2, the employee will receive a 1099-R for the amount of the employer contributions. This must be included on line 4b of Form 1040 and taxed accordingly.

Again, your particular 401(k) plan is not required to offer Roth options. The plan must have language in it allowing for these Roth contributions. The election to direct employer contributions to a Roth account is so new, it is unlikely your plan has this available yet. The IRS guidance employers were looking for to shed light on many details didn't come out until late 2023 so few plans have adopted these changes at this point.

If you have a question for Dan, please email him with "MarketWatch Q&A" on the subject line.

Dan Moisand is a financial planner at Moisand Fitzgerald Tamayo serving clients nationwide from offices in Orlando, Melbourne, and Tampa Florida. His comments are for informational purposes only and are not a substitute for personalized advice. Consult your adviser about what is best for you. Some reader questions are edited to aid the presentation of the subject matter.

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-Dan Moisand

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04-27-24 0750ET

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