What are the Pros and Cons of Roth IRAs?

What are the Pros and Cons of Roth IRAs? blog header
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Learn about the Pros and Cons of Roth IRAs

Saving for retirement is important, and the sooner you start planning, the better. Even though Roth IRAs have been around for more than a decade, many people are not aware of exactly how they work. In this article, we will discuss the basic pros and cons of a Roth IRA account.

PROS OF A ROTH IRA

  • Qualified withdrawals are free from federal income tax. This is probably the most significant advantage to a Roth IRA over a traditional IRA. To make a withdrawal from a Roth IRA, the account must have been open for more than five years, and the account owner must be 59 ½ or has become disabled or died. If these requirements are met, any withdrawal is tax-free. This can be advantageous for those individuals who think they will pay the same or higher tax rates during their retirement when they expect to take distributions from the account.  
  • Exempt from traditional IRA age limitations. If you have a traditional IRA, you must stop contributing to it when you turn 72. At that time, you also must start taking the required minimum distributions (RMDs) from your account. However, Roth IRAs are exempt from all RMD requirements, meaning you are never required to take a distribution. This makes it a great asset to leave your heirs. Also, you can continue to contribute to a Roth IRA after turning 72.
  • Note: The SECURES Act raised the age limit to 72 for traditional IRA contributions, starting in 2020. The previous limit was 70 ½.
  • Easily contribute to other retirement plans. If you contribute to a 401(k) plan, your contribution to a traditional IRA may not be tax deductible, and you may be losing out on the most significant advantage of a traditional IRA. Therefore, many employees who participate in a company 401(k) plan choose to make Roth IRA contributions.
  • Distributions are more accessible. With a traditional IRA, any withdrawal made before age 59 ½ is included in taxable income and subject to a 10% additional penalty. However, with a Roth IRA, you can withdraw contributions at any time without tax or penalty. This may make a Roth IRA an attractive alternative to an emergency savings account.
    • Note: The CARES Act allows you to withdraw up to $100,000 from either type of IRA without the 10% early withdrawal penalty if you have been affected by COVID-19.

CONS OF A ROTH IRA

  • No tax deduction for contributions. The deductibility of contributions is the most significant advantage to a traditional IRA over a Roth IRA. Therefore, a traditional IRA can be advantageous for those individuals who think they will be paying lower tax rates during their retirement. Current tax deductions may be worth more now than tax-free withdrawals later. Also, a person struggling to start their retirement savings might see the tax deduction of a traditional IRA as an incentive to get started.  
  • Subject to maximum contributions and income limitations. For both 2020 and 2021, the maximum contribution to a Roth IRA cannot be more than $6,000 (or $7,000 if you are age 50 or older). This limit is the same for both Roth and traditional IRAs. However, unlike traditional IRA contributions made at any income level, Roth contributions are subject to an income limitation and phase-out. For 2020, the phase-out of Roth contributions start at $124,000 for single taxpayers and $196,000 for married filing jointly. For 2021, the phase-out begins at $125,000 for single taxpayers and $198,000 for married filing jointly.
    • Note: Taxpayers can also take advantage of “back door Roth IRAs” to avoid income limitations to make Roth IRA contributions. These involve contributing to a non-deductible traditional IRA and then converting the non-deductible IRA to a Roth IRA.
  • You must be responsible for it. If you contribute to a 401(k) plan at work, chances are you had to do very little to get started. Your employer is responsible for administering the plan and funding it for you, both with your payroll contributions and potential matching and/or other employer contributions. They may have even automatically enrolled you in the plan. Starting a Roth IRA means you are responsible for setting it up and ensuring it gets funded adequately.

Smith Schafer can advise you on retirement planning specific to IRA accounts to help make your financial future more secure. We can help you determine the appropriate immediate and long-term strategies.

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