When it comes time to choose a retirement plan, the options can often be confusing. Since most retirement plans are employer-sponsored, the plans that are available to you might depend on your work situation.
Many employees in the private sector have access to a 401(k), while those who work for educational institutions, government agencies, or non-profit organizations might have access to a 401(a). But what happens when you have access to both? How do you choose the one that is right for you?
Keep reading to learn more about 401(a) and 401(k) plans and their differences.
What Is A 401(a) Plan?
So, what is a 401(a)? A 401(a) retirement plan is a defined contribution plan that allows contributions from the employee and employer. The specific rules about these plans are laid out in Section 401(a) of the Internal Revenue Code.
- Typically, these plans are offered to government agencies and non-profit organizations employees, much like a 457(b) plan or 403(b) plan.
- Employers have much control over employee and employer contributions to the plan. The employer decides whether employee contributions are voluntary or mandatory.
- Employer contributions are always mandatory, although the amount of the contributions can change.
Employers may decide to contribute a fixed dollar amount or a matching percentage based on the employee’s contributions. Contributions may be made either pre-tax or after-tax.
- Employers often have strict rules around eligibility criteria, vesting schedules, and contribution amounts to encourage employees to remain employed.
As of 2024, employees may contribute up to $69,000 annually to their 401(a). This includes both employee and employer contributions. There is no distinction between the two regarding the total contribution limits.
- The investment options available in a 401a are generally limited to very conservative and safe options. Mutual funds and annuities are essentially the only options for these plans.
When it comes time to withdraw your funds, the withdrawal rules are typical of most retirement plans. If you withdraw money before age 59 1/2, you will incur a 10% early withdrawal penalty.
If you leave your job, you can roll over your funds into another qualified retirement plan like a 401k or IRA. You might even decide to choose a Roth IRA for the rollover.
KEY TAKEAWAYS
- A 401(a) retirement plan functions similarly to a 401(k) plan; however, 401(a) plans are generally reserved for government agencies and non-profit organizations.
- Typically, investment options are somewhat limited with a 401(a) plan. The employer usually offers mutual funds and annuities as the primary investment options.
- One of the significant benefits of a 401(a) is the ability to contribute up to $69,000 into the account. One of the major benefits of a 401(k) is the broader investment selection.
What Is A 401(k) Plan
The 401(k) plan is likely the most common form of retirement savings plan. It is commonly available at most private-sector employers and even some public-sector employers.
- Your employer establishes specific rules regarding your plan, but the IRS lays out the general provisions that must be followed regarding 401(k) plans.
- These retirement accounts allow you to make tax-deferred contributions to your plan. This reduces the income tax you will owe in the current year, and you will pay income taxes on these funds when withdrawals are made.
- You may contribute up to $23,000 to your 401(k) in any year. Your employer might also decide to make matching contributions to your account.
Generally, this match is a percentage of your salary up to a maximum matching amount. If you are 50 or older, you can contribute an additional $7,500 per year in catch-up contributions.
- The investment choices available with a 401k are typically reasonably wide. Some plans may have 20 or more investment options, ranging from stocks and bonds to mutual funds or publicly traded securities.
The withdrawal rules for a 401k follow the same general guidelines as other retirement plans. Your pre-tax contributions cannot be withdrawn until age 59 1/2 without paying a penalty.
In some cases, you may be able to access these funds at age 55 if you retire early.
If you leave your employer, you can roll the funds into another qualified account, such as an IRA or other 401(k).
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- What is a 401(a) plan and who qualifies?
- Compare the differences between IRAs and 401(k).
401(a) vs 401(k): Key Differences
Although these two plans are pretty similar, they have some essential differences. We will discuss those key differences here.
Contribution Rules
Your employer has much more control over contributions in a 401(a) than a 401(k).
- With a 401(a), employer contributions are mandatory, and they may require mandatory employee plan contributions as well.
The contributions made by your employer into a 401(a) plan can be either a fixed dollar amount or a matching percentage of the employee’s contributions.
- 401(k) contributions are almost always voluntary, and employers are not required to make matching contributions, although they usually do.
Contribution Limits
The limits on how much money you can place into these accounts differ slightly. With a 401k, you can put up to $23,000 into your account. If you are over age 50, then you can place an additional $7,500 into the account.
With a 401(a), your voluntary contributions can be up to 25% of your salary. You can place $69,000 into your account between your employee and employer contributions in any given year.
Investment Options
A 401(k) usually offers a much more comprehensive range of investment choices than a 401(a). The choices available in a 401(a) are quite limited to very safe options.
This includes annuities and mutual funds. With a 401k, you can invest in stocks, bonds, mutual funds, and other ETFs. Of course, these investments can be riskier but may sometimes provide a higher return.
Tax Treatment
The tax treatment of these two plans is quite similar. Pre-tax contributions to the plans will give you a tax deduction in the current year. However, you will owe some tax dollars when you make withdrawals.
With a Roth 401(k) or Roth 401(a), you will place your money into the account on an after-tax basis. This allows you to make withdrawals tax-free when retirement rolls around.
Plan Withdrawals
When it comes time to withdraw money from your account, these two plans function similarly.
Withdrawals can be made penalty-free after reaching age 59 1/2. With a 401(k), you might be able to access your funds without a penalty at age 55 if you retire early. If you get money out before retirement, you will pay a 10% tax penalty with either plan.
Rollover Rules
When you change employers, you often have to decide what to do with the money in your retirement savings account. The rollover rules for both accounts allow you to move your money to another qualified plan like an IRA or another 401(k).
You may choose a traditional IRA or a Roth account for your rollover. Most of the time, a rollover must be done on a lump sum basis, meaning the entire account must be rolled into the new account.
With a 401(k), you might even be able to take advantage of a mega backdoor Roth when performing your rollover.
Roth Options
Both a 401(a) and 401(k) have Roth options. The tax benefits associated with Roth accounts are slightly different. With the Roth account, you pay income taxes in the current year, but your withdrawals are tax-free during retirement.
A financial advisor can help you decide whether a Traditional or Roth account suits your retirement planning.
TIP
Contributions to a Roth IRA, Roth 401(a), or Roth 401(k) are a great way to build tax-free retirement income. You can contribute to an IRA and either a 401(a) or 401(k) in the same calendar year.
IRA Plans – How They Compare
An Individual Retirement Account (IRA) is another type of retirement plan many people use. These plans are not employer-sponsored and are often used by business owners, self-employed individuals, and other individuals who do not have access to a plan through their employer.
IRAs still provide tax credits in the current year, and the tax code spells out all the rules about contribution limits and withdrawals.
Regarding an IRA, you can only contribute $7,00 per year into your account, $8,000 if 50 or older. This is much lower than most employer-sponsored plans.
When it comes time to withdraw money from your IRA, you cannot do so before age 59 1/2 unless you want to pay a penalty.
At retirement age, you will pay regular income taxes on the money you withdraw from your Traditional IRA. With a Roth IRA you will not pay any taxes on the distributions.
Even if you have a 401(a) or 401(k), you can still open an IRA and deposit money into that account.
The Bottom Line
401(a) and 401(k) accounts are great ways to save for retirement. The plans are pretty similar, although there are a few essential differences.
You should consider your financial and employment situation when choosing between the two plans. Often, your employer is the deciding factor because they may only offer one type of plan.
Regardless, it is a great idea to participate in these plans if your employer offers them. Plan participants can quickly grow their retirement savings and get significant tax benefits!
Frequently Asked Questions
These plans are pretty similar, and one is not necessarily better than the other. There are pros and cons to each, and the type of plan offered by your employer might depend on whether you work in the public or private sector.
Both plans allow for tax-deferred contributions, which can grow tax-free until retirement.
While a 401(a) has many advantages, several downsides exist. Your employer has a great deal of control over your contributions and whether you are required to make mandatory contributions.
In addition, your investment options with a 401a are quite limited. The only options generally available are annuities and mutual funds.
A 401(k) plan allows you to make tax-deferred contributions that grow tax-free until retirement age. The contribution limits are pretty high so you can increase your savings quickly. A 401k offers a wide range of investment options, so you have many choices available.
Roth options also exist, which allow you to make withdrawals tax-free when you begin taking money out of the account at retirement.
One of the most significant advantages of a 401(a) vs a 401(k) is the contribution limits.
A 401(a) allows a maximum contribution of $69,000 annually into your account. There is no distinction between employer and employee contributions so that any combination can arrive at this limit.
With a 401k, you can only put $23,000 into your account each year.
The max that you can contribute to your 401(k) each year is $23,000. If you are over age 50, then you can make additional contributions of $7,500 to your account.
The IRS allows these catch-up contributions to help grow your account quickly before retirement.
The IRS does change these limits from time to time. They typically increase every few years to keep up with the cost of living increases.
You can find a Social Security Administration office near you by using our SSA office locator and searching for your closest location.
