When it comes to choosing a long-term investment vehicle, the sheer amount of choices can be quite paralyzing. It’s very easy to stick with your conventional 401k through your employer and go no further– avoiding the additional steps needed for a full portfolio that gives you everything you need to reach your long-term financial goals. Let’s dispel the myths and get to the core facts of both Roth and Traditional IRA’s so that you can make an educated decision on which is the best choice for you.
What is a Roth IRA?
A Roth IRA is a retirement account that incentivizes you to invest by offering tax-free growth and earnings. Most people think that a Roth IRA is an actual investment. The truth is that it is simply a vehicle that holds your investments. You make the decision where to allocate your money, whether it be stocks, bonds, mutual funds, or Exchange Traded Funds (ETF’s). The IRA is simply an account that holds it all together.
Benefits of starting a Roth IRA vs. Traditional IRA
The largest difference between a Roth and Traditional IRA is the way that they are taxed. With a traditional IRA, the benefit is on the front end. Your contributions are tax-deductible in the year that they are made, so they can lower your adjusted gross income (AGI). Withdrawals during retirement are taxed just like normal income. The Roth IRA has a big advantage in that they offer tax-free growth and are taxed at your rate when you withdraw funds (generally tax-free in retirement). If you think your taxes are higher now than they will be in retirement, choose the Traditional IRA. If you suspect your taxes will be higher during retirement, the Roth is typically the way to go. With the Roth, after 5 years there is also a first home purchase exception where you can withdraw up to $10,000 to purchase a home, penalty-free.
Drawbacks of Roth IRA’s
Contribution limits
- The amount you can contribute to a Roth IRA starts to shrink at certain thresholds for modified adjusted gross income, then continues to shrink as your income rises. The contribution limit for 2019 is $6000 ($7000 if you are 50 or older).
Income Limits
- In general, you are eligible if you are a single tax filer with an AGI of less than $137,000, or married filing jointly with an AGI of less than $203,000.
In summary, a Roth IRA is an incredible resource for those looking for tax-free growth and withdrawals in retirement. It can offer quite a few advantageous benefits for the crafty saver looking to add to their quiver of long-term investment vehicles. If you’re interested in learning more, contact D&M Accounting today!
