IRA vs. 401(k)

401(k)

A profit-sharing or stock-bonus plan can include a cash or deferred arrangement (CODA) under which each participating employee has the option of receiving an amount of their compensation in cash or having it contributed pre-tax to the plan (401(k)).  The contribution is referred to as an elective contribution or elective deferral.  A profit-sharing or stock-bonus plan with this type of arrangement is known as a 401(k) plan.  If the plan meets certain requirements, the normal constructive receipt rule is preempted and the employees do not have to recognize the deferred amounts immediately in gross income.  Certain eligible employers may also adopt a Savings Incentive Match Plan for Employees (SIMPLE) option as part of a 401(k) plan. 

IRA

Individuals who receive compensation, including alimony, that is includible in gross income and who are under age 70 ½ throughout the tax year are entitled to make contributions to traditional IRAs.  Amounts earned in a traditional IRA are not taxed until distributions are made.  Generally, contributions to a traditional IRA may be deducted.  However, when the individual, or the individual’s spouse, is an active participant in an employer-maintained retirement plan, the deduction may be reduced or eliminated.  Nondeductible contributions may be made to a traditional IRA and/or Roth IRA.  Maximum combined contribution that can be made to all of an individual’s traditional and Roth IRAs is $5,000 for 2011 and 2012.  An individual who will be at least age 50 by the end of the tax year is allowed to make additional contributions to a traditional or Roth IRA.