Roth versus. Traditional IRA: main differences, comparison

  • A traditional IRA is funded with pre-tax income, while Roth IRAs are funded with after-tax dollars.
  • Unlike traditional IRAs, contributions made to a Roth IRA are not tax deductible and distributions are not taxed.
  • For traditional and Roth IRAs, contributions can be made at any age and savings grow tax-free.
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The two main types of individual retirement accounts, or IRAs, are traditional IRAs and Roth IRAs. These differ from their contribution limits to the distribution requirements. However, you don’t always have to choose one over the other.

“People assume you only need one type of IRA, but you don’t,” says Liz Young, head of investment strategy at SoFi. A Roth IRA can make sense at one point in your life, while a traditional IRA can make sense at another. Sometimes you will want to keep both tax-advantaged accounts open.

Find out when each account makes sense to you.

Traditional IRA vs Roth IRA: at a glance

Traditional IRAs and Roth IRAs vary in terms of tax benefits and who can contribute to them.

  • Traditional ARIs make contributions tax-deductible up to a certain amount, grow your savings tax-free and make withdrawals subject to income tax.
  • Roth IRA are available below a certain income threshold, grow your savings tax-free, and offer tax-free withdrawals.

The Internal Revenue Service (IRS) limits the amount you can contribute each year to all of your Traditional and Roth IRAs. For 2021, this limit is $ 6,000, or $ 7,000 if you are 50 or older.

What is a Traditional IRA?

A traditional IRA is a retirement account that offers tax-deductible contributions and tax-deferred retirement savings. It is available for all income brackets, although higher income taxpayers may face some drawbacks.

“As your income increases and you start to earn more money and [are] pushed into higher tax brackets, a traditional IRA starts to make more sense, ”says Kathleen Kenealy, chartered financial planner and director of financial planning at Boston Private, a Silicon Valley Bank company.

Traditional contributions to the IRA: You (and your spouse) can make regular contributions to a Traditional IRA at any age. You can deduct all contributions if you and your spouse do not have an employer-sponsored pension plan. If you or your spouse do so, the amount of your deduction will depend on your income.

Over the years, your money growing in the account is not subject to tax during this time.

Traditional IRA withdrawals: Distributions or withdrawals from traditional IRAs are taxed based on your retirement tax bracket.

You must start receiving distributions, called Minimum Required Distributions (RMDs), by April 1 of the year after you turn 72 and by December 31 of subsequent years. Withdrawing money before you turn 59.5 will incur a 10% penalty, with a few exceptions.

What is a Roth IRA?

Roth IRAs offer tax-deferred savings and tax-free withdrawals, making them a smart choice for those who expect higher tax rates in retirement.

Roth IRA contributions: A Roth IRA is only available below the income thresholds set by the IRS. If you qualify, you can contribute to a Roth IRA at any age.

Your money in a Roth IRA will grow over time and is not taxable.

Roth IRA withdrawals: Roth IRAs offer more flexibility when it comes to taking distributions. You can make withdrawals if you are disabled, once you reach the age of 59.5, or after five years from the tax year in which you made your first contribution. Eligible distributions also include those made:

  • To a beneficiary or to your estate after your death
  • For the purchase of an eligible first home (lifetime limit of $ 10,000)
  • For qualified claims

Roth IRAs do not impose an RMD and you can continue to contribute during your retirement. “This is a useful tool for controlling your taxable income in retirement and supplementing it with tax-free Roth IRA distributions – a pretty tactical move,” suggests Matt Rogers, chartered financial planner and director of financial planning at Fidelity’s. eMoney Advisor.

If you withdraw from a Roth IRA prematurely and do not experience any exceptions, you will be subject to a 10% tax penalty.

The financial report

If there was to be a winner in between, it would be a Roth IRA. His savings grow tax-free, distributions aren’t taxed, and you often don’t have to wait until retirement to use the money. Its main drawback is that it is not accessible to everyone, mainly high income people.

Traditional IRAs are not without advantages, however. Their savings also grow tax-free, and you often get tax relief if you contribute. Just make sure you meet all of its requirements and limitations.

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