401k Alternatives: 10 Potential Different Options

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A 401(k) plan is the most popular workplace retirement plan. Nearly 80% of Americans have access to one, providing millions of workers with a great way to start investing for retirement, especially if your company offers an employer match.

Unfortunately, not all workers have access to a 401(k) plan, perhaps because their employer doesn’t offer one, or they’re part-time employees who don’t meet their employer’s requirements to contribute, or they’re self-employed.

Additionally, though the majority of employees work for companies that offer 401(k) plans through work, only about half of those people actively contribute.

Considering the number of people who either don’t have access to a 401(k) plan or aren’t taking advantage of theirs, it begs the obvious question: how are people saving for retirement? The good news is there are alternative vehicles employees can consider to invest for retirement, often in a tax-advantaged way like they would in a 401(k).

What is a 401(k) Plan?

Before we dive into the alternatives to a 401(k), we should first explain a bit about how 401(k) plans themselves work. Knowing this will give you a better idea of how these other accounts differ and, if you have access to multiple types of accounts, how to assess the best option.

A 401(k) plan is a type of workplace retirement plan offered by many for-profit companies. This type of account allows workers to defer up to $20,500 of their annual income to the plan. Workers 50 and older can make an additional catch-up contribution of $6,500. Employers can also contribute to their workers’ accounts, for a total combined contribution limit of $61,000.

Most 401(k) plans are tax-deferred, meaning contributions to the plan are made pre-tax. The money then grows tax-deferred in the account, and you’ll pay income taxes on your distributions during retirement. Because these accounts are designed for retirement savings, you must keep the money in the plan until you reach 59½ or risk being subject to a 10% penalty on top of the income taxes you’ll owe.

10 401(k) Alternatives

While 401(k) plans are the most traditional retirement savings vehicle, there are potential alternatives to consider. Different vehicles offer different perks or advantages, but all can be an effective way of building wealth for retirement.

1. Roth 401(k)

A Roth 401(k) is technically a type of 401(k) plan, but one that many people don’t even know they have access to. A Roth 401(k) is identical to a traditional 401(k) in almost every way, but differs when it comes to the tax advantage available.

Unlike a traditional 401(k), which has pre-tax contributions, a Roth 401(k) has after-tax contributions. As a result, they won’t reduce your taxable income in the current year. However, once the money is in the account, you’ll never pay taxes on it again. Your investments will grow tax-free in the account, and you’ll get tax-free distributions during retirement.

2. Traditional IRA

An individual retirement account (IRA) is a type of account you open directly through a brokerage firm rather than through an employer. The IRS allows workers to contribute up to $6,000 per year to a traditional IRA, with an additional catch-up contribution of $1,000.

But to contribute to a traditional IRA, you must have earned income. And the amount you contribute can’t exceed 100% of your earned income. So if you only earn $4,000 in a year, you can only contribute up to $4,000 rather than the $6,000 contribution limit.

The tax advantage of a traditional IRA works exactly like that of a traditional 401(k). You’ll have tax-deferred contributions and investment growth, and then will pay income taxes on your distributions. Also like a 401(k) plan, you’ll be subject to a 10% penalty if you withdraw the money before you turn 59½.

It’s important to note that the entire contribution (or a portion of it) may not be tax-deductible based on your income and accessibility to an employer-sponsored plan.

3. Roth IRA

A Roth IRA is another type of individual retirement account. It’s identical to the traditional IRA in terms of contribution limits and withdrawal age. However, the tax benefits are identical to that of a Roth 401(k). You make after-tax contributions, and then won’t pay taxes on the money again.

Roth IRAs do have a distinct characteristic that allows you to withdraw more of your money early, if you choose. Because you’ve already paid taxes on your contributions, you can withdraw them at any time once your Roth IRA has been open for at least five years. However, this exception only applies to your contributions, not your investment earnings.

Eligibility for a Roth IRA is also subject to income limits, so if you exceed those limits, you won’t be able to contribute directly to the plan.

4. 403(b) Plan

A 403(b) plan — also known as a tax-sheltered annuity or TSA — is a workplace retirement plan offered by public schools and non-profit organizations. These plans have many similar features of a 401(k) plan, including their contribution limits, withdrawal rules, and tax advantages.

A key difference between 401(k) plans and 403(b) plans is you may be able to contribute more money. Employees with 15 years of service for the same organizations can contribute the lesser of one of the following:

  • $3,000
  • $15,000, reduced by the amount of additional elective deferrals in prior years
  • $5,000 times the number of years of service, minus the total elective deferrals for earlier years

5. 457(b) Plan

A 457(b) plan is a type of deferred compensation plan offered to many state and local government employees, as well as non-profit organizations. This type of plan has the same contribution limits as 401(k) plans. They can also offer both traditional and Roth contributions.

A key difference between 401(k) plans and 457(b) plans is that 457(b) plans are nonqualified and aren’t governed by ERISA. As a result, distributions before age 59½ aren’t subject to a 10% early withdrawal penalty unless the money has been rolled over from another retirement plan.

6. SEP IRA

A Simplified Employee Pension Plan (SEP IRA) is a retirement plan designed for self-employed individuals. Any sized business can set up a SEP IRA, but they’re especially popular with small companies.

Using a SEP IRA, a business can contribute up to 25% of an employee’s pay or $61,000, whichever is lower. But unlike 401(k) plans, employees can’t contribute to the account themselves — only the employer can make contributions. Additionally, the employer must contribute equally for all eligible employees, not as a dollar amount, but as a percentage of salary.

Given the high contribution limit and the fact that businesses must contribute equally for all employees, these plans are especially popular for solopreneurs who want to contribute a large amount to their own requirement and don’t have to worry about saving for employees.

Unlike other types of retirement plans, SEP IRAs can only be used for pre-tax contributions. You can’t open a Roth SEP IRA. These plans are subject to the same withdrawal limits as other retirement plans.

7. Solo 401(k)

A solo 401(k) — known to the IRS as a one-participant 401(k) plan — is another type of retirement plan designed for self-employed individuals. This type of plan can only cover the business owner and their spouse. Employers can’t contribute on behalf of employees.

With a Solo 401(k), a self-employed individual can contribute up to 100% of their compensation for the year, up to the annual contribution limit of $20,500. But in addition to the contributions self-employed individuals make as employees, they can also contribute to their own account on behalf of their business. Employer contributions can be equal to approximately 25% of compensation as defined by the plan, though for self-employed individuals the calculation is more specific. It’s advisable to work with a tax advisor to determine the allowable amount.

Like other types of retirement plans, a Solo 401(k) can accept either traditional or Roth contributions, meaning participants can choose their tax advantage. These plans are subject to the same withdrawal limits as other retirement plans.

8. Health Savings Account

A health savings account (HSA) is unique on this list because it’s not technically designed to save for retirement. Instead, it’s designed to save for healthcare expenses.

Workers are eligible to contribute to an HSA if they have a high-deductible health plan, meaning a health insurance plan with a deductible of at least $1,400 for an individual or $2,800 for a family. There’s an annual contribution limit of $3,650 for an individual or $7,300 for a family.

HSAs are known for their triple tax advantage. First, like a traditional 401(k) plan, your contributions are tax-free. Additionally, you can invest the money in your HSA, and it grows tax-free as long as it’s in the account. Finally, you won’t pay taxes on your withdrawals as long as you use them for qualified health expenses. If you use the money for anything else, you’ll pay income taxes on your withdrawals, as well as a 20% penalty.

HSAs also have a unique retirement savings component. Once you reach age 65, you can use the money in the account for any expense — including non-medical expenses — without paying a penalty on your distributions. However, like a 401(k) plan, you will pay income taxes.

9. Taxable Brokerage Account

A taxable brokerage account is a popular type of investment account that allows anyone — regardless of their employment status, annual income, or employer — to invest for their financial goals.

Taxable brokerage accounts have some clear advantages. First, you can invest as much as you want without contribution limits. You can also withdraw money at any time and use the money for any purpose, without worrying about penalties.

Unfortunately, taxable brokerage accounts also have a key disadvantage: Taxes. There are no real tax advantages to this type of account. You invest with after-tax money and pay taxes on your investment growth. There are generally two types of taxes you might pay on the assets in your taxable brokerage account:

  • Ordinary income taxes: You’ll pay these taxes on short-term capital gains, ordinary dividends, and interest income. The tax rate is equal to your normal income tax rate.
  • Long-term capital gains taxes: You’ll pay these taxes on long-term capital gains and qualified dividends. The tax rate is either 0%, 15%, or 20%, depending on your income.

10. Real Estate

Unlike the other 401(k) alternatives on our list, real estate isn’t a type of investment account. Instead, it’s a type of asset you can invest in. And despite not being specifically designed for retirement savings, many people use it for that purpose.

Real estate investors can generally make money in two different ways. First, they can make money by selling real estate that has appreciated over time. They can also make money by renting out the real estate they own.

Owning rental properties has the advantage of creating a regular source of cash flow. The monthly rent that your tenants pay can create a source of income for you during retirement.

Of course, there are downsides to owning real estate. Rather than having your money accessible and liquid in an investment account, it’s highly illiquid in a piece of real estate. While it may create a source of monthly income, you’ve also tied up a significant amount of money in a physical asset.

Next Steps for You

Whether or not you have access to a 401(k) plan, you have plenty of options to help you save for retirement. You can also jumpstart your retirement goals by having the right tools by your side. The Personal Capital Retirement Planner can help you reach your retirement goals by estimating whether you’re on track for retirement, as well as how much you should save each month to retire on time and with enough money.

Get Started with Personal Capital’s Free Financial Tools

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