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ROTH & Traditional IRA: Here's What You Need to Know

Written by: Tamara Kukainis CFP®

4/26/2018

TOPICS: IRAS, RETIREMENT ACCOUNTS, TRADITIONAL IRA, ROTH IRA, TAX DEFERRAL

As a Financial Advisor, I find that it is crucial to educate my clients on investment knowledge and terminology.  I understand that some learning curves are steeper than others, but it is my goal to make sure my clients feel comfortable with investment decisions and understand how we can help plan for financial success.  One topic that has come up more lately due to the recent tax law changes is the difference between Traditional IRA’s and ROTH IRA’s – How do they work?  How much can I contribute each year?  Why does it matter?

TRADITIONAL IRA:

  • In 1974, Congress enacted the Employee Retirement Income Security Act (ERISA), which created the Traditional Individual Retirement Account (IRA). 
  • The goal of a Traditional IRA is to take advantage of tax reductions from income now and save money to provide income in Retirement.
  • Traditional IRA contributions are tax deductible if certain requirements/eligibility is met.  See IRA Deduction Limits here.  This means that, if you meet the requirements, you can deduct the amount of your contribution from your income that year –which could result in lower amount of taxes owed.
  • You can open an IRA if you are under 70½ and are working or receiving long-term disability benefits.
  • You are required to take Required Minimum Distributions (RMDs) from your Traditional IRA once you turn 70½.
  • For 2018, you can contribute up to $5,500 per year to a Traditional IRA OR $6,500 per year if you are 50 and older.

ROTH IRA:

  • In 1997, Congress enacted the Taxpayer Relief Act, which created the ROTH IRA.
  • The goal of a ROTH IRA is to create tax-free withdrawals and Income in Retirement.
  • ROTH IRA Contributions are made up of after-tax dollars, meaning that you cannot deduct from your income taxes.
  • ROTH IRA withdrawals come out tax-free.
  • Individuals who think they may have a higher income tax bracket during retirement may find a ROTH IRA more beneficial - due to not paying taxes on withdrawals in Retirement (because they already paid taxes on the money they contributed, albeit at a lower tax rate).
  • There are specific income restrictions for ROTH IRA contributions.  You can find the 2018 Limits  below:

www.irs.gov  - https://www.irs.gov/retirement-plans/plan-participant-employee/amount-of-roth-ira-contributions-that-you-can-make-for-2018

  • You are NOT required to take Required Minimum Distributions (RMDs) from your ROTH IRA once you turn 70½.
  • You can contribute to your ROTH IRA past age 70½ .

There are many benefits to both a Traditional and ROTH IRA, it just depends on each individual’s financial situation.  You have the option of doing what is called a ROTH Conversion – which means turning your Traditional IRA Account into a ROTH IRA.  In order to do so, you would be taxed upon your entire Traditional IRA Account, because it was tax-deferred.  This may be beneficial if you have a year where your income tax rate would be low.  Please keep in mind that we are not tax professionals and that you should consult your tax professional before making any decisions or transactions in any of your retirement accounts.

Please reach out to us here or schedule a complimentary call here if you would like to discuss your Retirement Accounts and how they can impact your financial well-being!

Sources:

www.Traditionalira.com; www.Rothira.com; https://www.irs.gov/retirement-plans/ira-deduction-limits; https://www.irs.gov/retirement-plans/plan-participant-employee/amount-of-roth-ira-contributions-that-you-can-make-for-2018

For a comprehensive review of your personal situation, always consult with a tax or legal advisor. Neither Cetera Advisor Networks LLC nor any of its representatives may give legal or tax advice.

Some IRA’s have contribution limitations and tax consequences for early withdrawals. For complete details, consult your tax advisor or attorney. Distributions from traditional IRA’s and employer sponsored retirement plans are taxed as ordinary income and, if taken prior to reaching age 59 ½, may be subject to an additional 10% IRS tax penalty. Converting from a traditional IRA to a Roth IRA is a taxable event. A Roth IRA offers tax free withdrawals on taxable contributions. To qualify for the tax-free and penalty-free withdrawal or earnings, a Roth IRA must be in place for at leastßive tax years, and the distribution must take place after age 59 ½ or due to death, disability, or a first time home purchase (up to a $10,000 lifetime maximum). Depending on state law, Roth IRA distributions may be subject to state taxes.