When contributing to a 401(k) plan via paycheck deduction, one may contribute to an after-tax 401(k), a Roth 401(k), or (the or is non exclusive) a traditional (a.k.a. pre-tax) 401(k).
In the line Roth 401K DEFERRAL: what is being deferred?
I understand that for the PRE-TAX 401K DEFERRAL, the income tax is being deferred to whenever one withdraws the money, but I don't see what is being deferred for a Roth 401(k).
The "Deferral" for the 401k means that you're not collecting your pay immediately, but instead diverting it to a retirement account (Roth 401k in this case).
What is the difference between a regular 401(k) deferral (pre-tax) and a Roth 401(k) deferral?
Under either a regular 401(k) deferral or a Roth 401(k) deferral, you make a deferral contribution by electing to set aside part of your pay (by either a certain percentage or a certain dollar amount). For a regular 401(k) deferral, the taxable wages on your W-2 are reduced by the deferral contribution; therefore, you pay less current income tax. However, you will eventually pay tax on these contributions and earnings when the plan distributes the regular 401(k) deferrals and earnings to you. The result is that the tax on the regular 401(k) deferrals and earnings is only postponed.
A Roth 401(k) deferral is an after-tax contribution, which means you must pay current income tax on the deferral. Since you have already paid tax on the deferral, you won’t pay tax on it again when you receive a distribution of your Roth 401(k) deferral. In addition, if you satisfy cer tain distribution conditions, then you won’t have to pay tax on the earnings either. This means that the distribution of the Roth 401(k) earnings can be tax free not just tax postponed.
Traditionally, this deferred compensation typically was directed to a 401k, but now that Roth 401k is another available option, deferred compensation can be directed there as well.
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