401(k)s | Finance & Capital Markets | Khan Academy | Summary and Q&A

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September 29, 2013
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Khan Academy
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401(k)s | Finance & Capital Markets | Khan Academy

TL;DR

401(k) and Traditional IRA are similar retirement accounts that allow tax deferral, but they have differences in contribution limits, employer involvement, and investment options.

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Key Insights

  • 🤕 Both 401(k) and Traditional IRA offer tax deferral benefits and require withdrawals to start by the age of 70-1/2.
  • 🤕 Withdrawing from a retirement account before the age of 59-1/2 results in taxes and penalties.
  • ✋ 401(k) accounts have higher contribution limits and potential employer matching, making them advantageous for individuals with access to these benefits.
  • 👻 Traditional IRA offers more investment flexibility, allowing individuals to choose where to invest their funds.
  • ❓ Borrowing from a 401(k) without penalty and paying interest to the account is an option not available with a Traditional IRA.
  • ❓ Individual circumstances and employer offerings should be considered when deciding between a 401(k) and Traditional IRA.
  • 🚕 The content emphasizes the importance of deferring taxes and considering future tax brackets before making a decision.

Transcript

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Questions & Answers

Q: What is the main similarity between 401(k) and Traditional IRA accounts?

The main similarity is that both accounts allow individuals to defer taxes and grow their money untaxed until the age of 59-1/2 when they can start withdrawing.

Q: What happens if you withdraw from a retirement account before the age of 59-1/2?

Withdrawing before the age of 59-1/2 will result in taxes on the withdrawal amount and a 10% penalty on all the funds received.

Q: What is the difference in contribution limits between 401(k) and Traditional IRA?

In 2010, the contribution limit for 401(k) was $16,500, while the limit for Traditional IRA was $5,000. Generally, 401(k) allows for higher contributions.

Q: What is the main difference in employer involvement between 401(k) and Traditional IRA?

401(k) accounts are organized by employers, which means the employer specifies potential investments and may provide matching contributions. Traditional IRA accounts are managed by individuals with more flexibility in investment options.

Summary & Key Takeaways

  • Both 401(k) and Traditional IRA allow you to defer taxes and grow money untaxed until the age of 59-1/2 when you can start withdrawing. After that age, you will pay income tax on withdrawals.

  • If you withdraw before 59-1/2, you will be taxed and face a 10% penalty on all the funds received.

  • The differences between the two accounts include contribution limits (higher for 401(k)), employer involvement in 401(k) accounts (specifying investments and potential matching), and the flexibility to invest in different options with a Traditional IRA.

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