An individual retirement account (IRA) lets you make retirement savings while potentially saving on taxes. While traditional and Roth IRA accounts are similar, they differ mainly in handling tax deductions, funds accessibility, and eligibility standards. While both IRAs work well for your retirement savings plan, understanding their differences helps you choose better. This article discusses five reasons to select a Roth IRA over a traditional IRA.
1. Tax-free growth and withdrawals
Unlike the traditional IRA, which provides an upfront tax benefit, where contributions aren’t yet taxed and might reduce your taxable income, Roth IRA lets you contribute after-tax funds to the account. Your savings grow tax-free, and your withdrawals will also be tax-free. Traditional IRA contributions reduce your taxable income for the period they were made, lowering your adjusted gross income.
When you make Roth IRA contributions, you don’t receive a tax deduction, meaning it doesn’t reduce your adjusted gross income that year. If you believe you belong to a lower income tax bracket now than you’ll be in retirement, then contributing post-tax income to a Roth account is ideal. Going through IRA guides for seniors will shed more light on the tax issue, helping you make informed decisions.
2. Access your contributions penalty-free at any time
An IRA gives you more flexibility, especially if you require cash urgently. With traditional IRAs, your withdrawals are available tax and penalty-free after you’ve turned 59 and half years. You’ll be taxed at the current income tax rate and pay a penalty fee if you make early withdrawals. Roth IRA lets you withdraw your contributions at any time, penalty and tax-free. However, if you touch your earnings, you might be taxed and penalized.
3. Roth doesn’t have the required minimum distributions (RMD)
Traditional IRA has a required minimum distribution which forces you to get a minimum distribution from your account. It makes you withdraw funds whether you need them or not, resulting in more taxes and halting the tax-advantaged compounding in the account. Roth IRA doesn’t have a required minimum distribution, meaning compounding can be done for as long as you deem necessary. You can even pass the money untouched and tax-free to your heirs.
4. Roth withdrawals can help with taxes in retirement
Since withdrawals from a Roth IRA account are tax-free, they can help you eliminate the need for a cash-out from other accounts as they could increase your adjusted gross income (AGI), income taxes, and other costs. For instance, if a retiree requires money to buy a new car, they can avoid debt by withdrawing from a retirement account. Withdrawing money from a traditional IRA account means you’ll owe taxes and an early withdrawal penalty. However, drawing from a Roth account is tax and penalty-free, saving on taxes from other accounts.
5. Pass the money to beneficiaries tax-free
Unlike traditional IRA, Roth IRA is an excellent wealth transfer mechanism because it allows you to pass the money in the account to your beneficiaries tax-free. The heirs can still decide to grow the account tax-free for years. However, you should familiarize yourself with what happens with an inherited IRA.
Both traditional and Roth IRAs can be beneficial when saving for your retirement. Consider picking Roth IRA to enjoy these benefits.