Australian Expats and US Retirement Planning - Part 1

Introduction to US Retirement Options for Expats

When an Australian expat relocates to the US, they often have the opportunity to enrol in their US employer’s retirement plan. Typically, this means choosing between an Individual Retirement Account (IRA), a 401K, or a Roth-type account.

Overview of Roth 401k and Roth IRA:

A Roth 401k or Roth IRA is a US retirement account that is funded with after-tax contributions. This structure offers significant long-term tax benefits upon withdrawals. Many US clients, based on our observations, opt for a 401k with their employer, often benefiting from an employer match scheme.

Distinguishing Between 401K and Roth Accounts:

• 401K Account:Funded through pre-tax contributions from both the employer and the employee. The funds grow in a tax-deferred environment, benefiting from capital appreciation, income distributions, and further contributions. Expats can start drawing down on this account as a retirement income stream at age 59.5. However, if they leave the employer, withdrawals can technically start at age 55 (a topic for another discussion). Since the account is built from pre-tax contributions and has grown tax-deferred, withdrawals are subject to income tax.
• Roth Account:Funded with after-tax contributions. Upon retirement or under other qualifying criteria, distributions are tax-free, highlighting the key difference in tax treatment compared to the 401K.

Comparative Summary of Roth IRA and 401(k):

Tax Treatment:

• Roth IRA: After-tax contributions with tax-free qualified withdrawals.
• 401(k): Pre-tax contributions, with withdrawals taxed as ordinary income.

Employer Match:

• Roth IRA: Not applicable.
• 401(k): Varies by employer.

Required Minimum Distributions (RMDs):

• Roth IRA: None.
• 401(k): Begins at age 72.

Penalties and Age Restrictions:

• Both types of accounts impose a 10% early withdrawal penalty with certain exceptions and permit penalty-free withdrawals from age 59.5.

Tax Implications on 401K Withdrawals:

A frequently asked question pertains to the tax rate on 401K withdrawals. The IRS taxes these at the individual's US marginal tax rate. For those who have returned to Australia, many 401K platforms typically withhold a flat rate of 30% as withholding tax. However, for green card holders or US citizens, it's often possible to reduce this withholding rate, sometimes using a W8-BEN form.

Stay tuned for the next article where I will deep dive into the tax impact on withdrawals, so you can plan accordingly.

Disclaimer?–?The above commentary is general in nature and should not be construed as tax or financial advice. Please consult a licensed tax accountant and financial adviser to determine whether the above information is suitable for you.