The tax free distribution aspect of a Roth IRA has many people wanting to convert their current retirement plans to Roths.

A 401k is an employer sponsored retirement plan. It gets its name from a provision of the Internal Revenue Code that allows the tax-deferred contributions. In a normal 401k plan, the employee as some options as to how his money will be invested while it is in the account. In many cases, the employer makes contributions to the account. The employer contributions must remain in the account for a certain length of time before they become invested. If the employee leaves the plan before contributions are vested, he loses them.

This information tells much about the reasoning behind employer contributions to the 401k. It would be nice to think that a genuine concern for the well being of employees after retirement is the primary motive, but sadly this is not true. The employer is making contributions to the plan as a way to encourage employees to remain with the company longer in order to get the benefit of vested funds. The 401k operates in a similar manner as a Traditional IRA in that the contributions from the employee are not taxed before they are deposited in the account. Earnings are not taxed at the time they are earned either. Both contributions and earnings are taxed at the time of withdrawal.

Some people would prefer a Roth IRA to a 401k despite the fact that they would not be receiving employer contributions. One reason is the fact that the earnings can generally be withdrawn after retirement without any taxation. Another major factor that makes the Roth IRA a popular choice is that they can be opened anywhere and the account owner can make the decisions concerning the type of investments. Although the 401k owner is given some options on his investment strategy, the custodians of the plan still basically control it.

The factors to consider when thinking of a conversion to a Roth involve the possible loss of unvested contributions. There is a 60-day limit to perform the conversion before a penalty incurs, but since the Roth IRA contributions are paid after taxation, the conversion amount will be considered income in the year of the conversion. It is important to consider the income tax implications of your decision. Another thing to remember is that many 401k plans allow loans from the account in times of emergency. Although borrowing against your retirement funds is not the best idea, sometimes it is necessary.

The Roth IRA does not allow borrowing and it is subject to limitations on the total contribution per year. There is also an upper limit earning qualification cut off in a Roth IRA. If you make over this amount, you are no longer allowed to make contributions although you can still maintain the account. There are now Roth 401k plans that offer the best of both worlds in many ways. If your employer offers one of these, it is certainly something to look into before deciding to convert to a regular Roth IRA.