Roth account gives retirees an option for savings

WASHINGTON -- Employees next year could be offered the opportunity to stash away some of their retirement savings in a new type of account that may reduce their taxes in the long-run.

The new Roth 401(k) requires that workers pay tax on earnings before setting aside the money for retirement. In exchange, the money grows and can be withdrawn tax-free. It's modeled on the Roth individual retirement account, which works the same way.

It's the opposite of the 401(k) accounts currently used. Those let employees save and invest some of their salary before paying tax, but taxes come due when the money is withdrawn in retirement.

A few companies will be prepared to offer the new Roth 401(k) accounts to their workers when the law makes them available on Jan. 1. More plan to roll the accounts out sometime during 2006.

The Internal Revenue Service still has some regulations to issue, and companies need to work on account administration.

"Getting the whole system up and running requires some time," said Anne Waidmann, a manager in the Washington, D.C., office of PricewaterhouseCoopers who tracks employee benefit and compensation issues.

The new accounts differ from current workplace retirement savings accounts in their taxation, but many other rules apply to both equally.

Employees can only put a certain amount of money in either or both types of 401(k) retirement accounts each year. Next year, the limit will be $15,000, or $20,000 for workers age 50 or older. Any matching contribution made by an employer will be deposited in a traditional 401(k), not a new Roth 401(k) account.

It's also a temporary savings incentive that will disappear from the law after 2010 unless lawmakers decide to extend the accounts.

Who could benefit from the new retirement opportunity? The accounts are best for workers who pay taxes at a lower rate now than they will in retirement, but few taxpayers can say for certain whether their tax rates will go up or down.

Stephen Utkus, director of the Vanguard Center for Retirement Research, said that means most workers won't lose by diversifying their savings and putting some money in each type of account.

"I'm not sure where tax rates are going, you're not sure where tax rates are going," he said. "You may be worried that tax rates could go up in the future, so hedge your bets."

Kevin Morris, a marketing officer in the retirement investor services area of The Principal Financial Group, said the new accounts will be most appropriate for about one in four workers.

"Are most people saving enough for retirement? The answer to that is no," Morris said. "So, in general, if they're not saving enough for retirement, it's likely they won't be in a higher tax bracket at retirement as compared to today."

The new accounts will clearly benefit wealthier workers who want to contribute to Roth IRAs but earn too much money to qualify for participation in those accounts. Using a Roth 401(k) account through work could be the only way those workers can get the tax benefits of Roth-style savings.

Employees who contribute the maximum amount to their accounts will also benefit from setting aside their money in a Roth 401(k). That's because a portion of the money put into a traditional 401(k) account must be used to pay taxes, while every dollar put into a Roth 401(k) account can be spent after retirement.

Employees who contribute less than the maximum allowed but still save a lot toward retirement could be better off piling the money into a Roth 401(k). That's especially true for workers with many years before retirement.

The Roth savings account could also help younger workers who earn less, and therefore pay less tax than they expect to pay later in their careers.