If you are planning for your financial future, it might be a good idea to contribute to an individual retirement account (IRA), which is a tax-advantaged account meant for long-term savings. Some IRAs are available through employers, but the two most common—traditional IRAs and Roth IRAs—are designed for you to use on your own.
These accounts are similar but do differ when it comes to tax deductions, accessibility of funds, and eligibility. Before you decide where you want to invest your money, it’s best to understand the difference between these two types of accounts, and we’d love to help!
At Keel and Long, we use our combined experience of nearly two decades in order to help you reach your financial goals. We specialize in portfolio management, 401k plan services, and financial planning in general. If you’re ready to set up your financial future with us, contact us as soon as possible!
Traditional IRA contributions are tax-deductible for the year you make the contribution—both state and federal. Withdrawals, or distributions, are taxed at your income tax rate when you make them. Contributions to traditional IRAs generally lower your taxable income in the contribution year. That lowers your adjusted gross income (AGI), possibly helping you qualify for other tax incentives you wouldn’t otherwise get, such as the child tax credit or the student loan interest deduction.
If you withdraw money from a traditional IRA before age 59.5, you’ll pay taxes and a 10% early withdrawal penalty. You can avoid the penalty (but not the taxes) in some specialized circumstances like when you use the money to pay for qualified first-time homebuyer expenses (up to $10,000) or qualified higher education expenses.
On the other hand, you don’t get a tax deduction when you make a contribution to a Roth IRA. This means it doesn’t lower your AGI that year. But your withdrawals from your Roth IRA during retirement are tax-free. That’s because you paid the tax bill upfront, so you don’t owe anything on the back end.
Roth IRAs have income-eligibility restrictions. In 2021, for example, singles must have a MAGI (Modified Adjusted Gross Income) of less than $140,000, with contributions phasing out starting with a MAGI of $125,000. Married couples must have modified AGIs of less than $208,000 to contribute to a Roth, and contributions phase out starting at $198,000.
These limits increase for the 2022 tax year. The MAGI for single filers maxes out at $144,000
and begins to phase out at $129,000, while the MAGI range for married couples filing jointly is $204,000 to $214,000.
Roth IRAs carry no required minimum distributions (RMDs), which means you’re not required to withdraw any money at any age or during your lifetime at all. This feature makes them ideal wealth-transfer vehicles. Beneficiaries of Roth IRAs don’t owe income tax on withdrawals, either, though they are required to take distributions or else roll the account into an IRA of their own. Unlike a traditional IRA, you can withdraw sums equivalent to your Roth IRA contributions penalty- and tax-free at any time, for any reason, even before age 59.5.
If you are ready to discuss your investment options, we would love to help you get started. Schedule a free consultation with us at Keel and Long today! We’re happy to talk more about IRAs with you, and we’d love to manage your investment portfolio for you. Let us know how we can help!