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IRA vs. 401(k): How to Choose

IRAs and 401(k)s both offer tax benefits to retirement savers. It's fine to contribute to both. Otherwise, first get any 401(k) match you can, then max out your IRA or Roth IRA. This can help maximize your returns and minimize your costs.

Dayana Yochim, Andrea CoombesOctober 29, 2019

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IRA vs. 401(k): The quick answer

Both 401(k)s and IRAs offer valuable tax benefits to people who are saving for retirement, and you can contribute to both at the same time. The main difference between the two types of accounts is that employers set up and offer 401(k)s, while IRA accounts are opened by individuals (you go to a broker or a bank to open an IRA). With an IRA, you'll have access to many more investments. With a 401(k), the maximum annual contribution is much bigger than an IRA.

If you're trying to choose whether to start with an IRA or a 401(k), here’s the quick answer:

  • If your employer offers a 401(k) with a company match: Put enough money in your 401(k) to get the maximum match. That match may offer a 100% return on your money, depending on the 401(k). For example, some employers promise a 100% match up to 3% of salary. That means, if your salary is $50,000, your employer will put in $1,500, as long as you also contribute at least $1,500. Once you get the match, go max out an IRA for the year, return to the 401(k) and resume contributions there.

  • If your employer doesn’t offer a company match: Skip the 401(k) at first and start with an IRA or Roth IRA. You'll get access to a large selection of investments when you open your IRA at a broker, and you'll avoid the administrative fees that some 401(k)s charge. After contributing up to the IRA limit, fund your 401(k) for the pre-tax benefit it offers. Here's how and where to open an IRA. (Wondering which IRA is best for you? Here's how to choose between a Roth IRA and a Traditional IRA.)

Here's more on the pros and cons of IRAs vs. 401(k)s:

» Want to turn a 401(k) into an IRA? See our guide to rollover IRAs

IRA vs. 401(k): A road map

Hats off to you if you have the means to max out both a 401(k) and a traditional IRA or Roth IRA. If not, this IRA versus 401(k) road map will help you prioritize your dollars.

Your first step depends on whether your employer matches your contributions to your workplace savings account.

If your employer offers a 401(k) match

1. Contribute enough to earn the full match. Check your employee benefits handbook. If you see that your employer matches any portion of the money you contribute to the company 401(k) plan, do not bypass this opportunity to collect your free money.

A company matching program is one of the biggest benefits of a 401(k). It means that your employer contributes money to your account based on the amount of money you save, up to a limit. A common arrangement is for an employer to match a portion of the amount you save up to the first 6% of your earnings.

Even if a 401(k) has limited investment choices or higher-than-average fees, carve out enough money from your paycheck to get the full company match, as it’s effectively a guaranteed return on those dollars. Also note that employer contributions don’t count toward the 401(k) annual contribution limit.

2. Next, contribute as much as you’re allowed to an IRA. Depending on which type of IRA you choose — Roth or traditional — you can get your tax break now or down the road when you start withdrawing funds for retirement.

  • A traditional IRA is ideal for those who favor an immediate tax break. Contributions may be deductible — that means your taxable income for the year will be reduced by the amount of your contribution. But, if you're also covered by a 401(k), your deduction may be reduced or eliminated based on income. If you (or your spouse) has a workplace retirement plan, check out the IRA limits.

  • A Roth IRA is a good choice if you’re not eligible to deduct traditional IRA contributions, or if you don't mind giving up the IRA's immediate tax deduction in exchange for tax-free growth on your investments and tax-free withdrawals in retirement. Roth IRA eligibility is not affected by participation in a 401(k), but there are income limits. You can see the latest Roth rules on our IRA limits page.

» Stuck between the two? See our Roth IRA vs. traditional IRA comparison

3. After maxing out a traditional IRA or Roth IRA, revisit your 401(k). Even after you’ve gotten the employer match — and even if your investment choices are limited, which is one of the main drawbacks of workplace retirement plans — a 401(k) is still beneficial because of the tax deduction.

The money you contribute to a 401(k) will lower your taxable income for the year dollar for dollar. And don’t forget about the added benefit of tax-deferred growth on investment gains.

If your employer doesn’t offer a 401(k) match

1. Contribute to a traditional or Roth IRA first. Not all companies match their employees' retirement account contributions. When that’s the case, choosing an IRA — and contributing up to the max — is generally a better first option.

Why start with an IRA? One of the biggest benefits of an IRA is that it offers access to a virtually unlimited number and type of investments, giving you much more control over your investment options: You can bargain-shop for low-cost index mutual funds and ETFs instead of being restricted to the offerings in a workplace retirement account, and you can avoid paying the administrative fees that many 401(k) plans charge.

2. After maxing out IRA benefits, contribute to your 401(k). Here again, the tax deferral benefit of a company-sponsored plan is a good reason to direct dollars into a 401(k) after you’ve funded a traditional or Roth IRA.

Only in the worst cases — a retirement account with truly crummy, high-fee investment choices and high administrative costs — would it be advisable to completely avoid your company plan.

Remember that if your income passes certain thresholds and you or your spouse put money into a workplace plan, your ability to deduct traditional IRA contributions may be reduced or eliminated. If you aren’t eligible for a traditional IRA deduction, you may still be eligible for a Roth IRA. Also, even if you’re not eligible to deduct your traditional IRA contribution, you can make nondeductible contributions and still benefit from tax-deferred investment growth. And it's possible to convert an IRA to a Roth IRA by using a so-called backdoor Roth IRA.

Here are some of our top picks for brokers that offer IRA accounts:

For the complete list, check out our round-up of top IRA accounts.