May 05, 2015
IRAs: Which choice is right for you?
Roth vs. Traditional IRAs
Individual retirement accounts (IRAs) are a fabulous way to save for your future retirement years and the financial safety of your family. Today, we have essentially two forms of retirement accounts, Roth and Traditional. While having choices may be viewed as a benefit, each investor must understand the many considerations in order to make the best choice that will benefit you and your family. Without giving adequate thought to income tax issues, withdrawal considerations, age, minimum required distributions and penalties, one could make a major monetary mistake at a time in your life that cleaning up a financial mess is less than desirable.
One of the first considerations is who is eligible for a Traditional or Roth. Under a traditional IRA, any investor with earned income is eligible to participate. However, Roth IRA’s have income limits that begin with AGI of $131,000 or less (previously $129,000) for single tax filers and $193,000 or less (previously $191,000) for married couples. As your income rises to these limits there are phase out amounts that your tax advisor can assist you with. One very nice benefit for Roth contributors is that the income and capital appreciation growth are tax free. Since Roth contributions are made with “after tax” dollars, the income and in some cases the early withdrawal are tax free and penalty free. Traditional IRA contributions are made with “pre-tax” dollars, therefore your current year contribution is deductible on your income tax. Subsequently, your Traditional IRA withdrawals are taxed at your retirement income tax rate. This begs the question of how good of a prognosticator are you with tax rates and your income requirements at retirement. Theoretically, your income tax rate at retirement should be less than your current tax rate. Predicting what the US Government will do with tax rates and how well your IRA performs over the life of the investment is extremely difficult. Age for eligibility and withdrawals requires significant thought. With Traditional IRAs, the investor must be under the age of 70 1/2 years and have earned income in order to begin investing. Roth contributors can be any age with earned income and be eligible to invest. A “rule of thumb” is to consider a Roth if you are under the age of 50, but you should check with your investment advisor before assuming this rule. Required minimum distributions are a key component of Traditional IRAs. A Traditional investor is required to take annual distributions at the age of 70 1/2 years. Traditional investors are eligible to take distributions at the age of 59 1/2 years if they so desire. On the other hand, Roth investors are not required to take annual distributions during the life of the original owner. The writers of the IRA rules did make one common attribute for both Traditional and Roth, and that is the max contribution each year is limited to $5,500. There is an allowance for an additional $1,000 contribution for investors over the age of 50 years old.