Who Should Choose a Roth IRA?

Learn about the differences between traditional and Roth IRAs and find out who should choose a Roth IRA for their retirement planning.

Who Should Choose a Roth IRA?

When it comes to retirement planning, it's never too early to start. An Individual Retirement Account (IRA) is a great way to save for the future and potentially save on taxes. There are different types of IRAs, each with their own rules and benefits. A Roth IRA is one of the most popular options, as it allows you to contribute money after taxes, your money grows tax-free, and you can generally make tax-free and penalty-free withdrawals after age 59 and a half.

But who should choose a Roth IRA? To determine which Roth IRAs are the best overall, Select reviewed and compared more than 20 different accounts offered by domestic banks, investment firms, online brokers and robo-advisors. A Roth IRA makes more sense if you are sure you have a higher income in retirement than you do today. If you expect your income (and tax rate) to be lower in retirement than you do today, a traditional or 401(k) IRA is probably the best option. Your earnings from contributions to a Roth IRA depend on the associated fees, contributions you make to your account, and market fluctuations.

Contributions to Roth IRAs are not tax-deductible, but retirement withdrawals are tax-free. As long as your Modified Adjusted Gross Income (MAGI) is below the annual limit and you have taxable compensation equal to or greater than your contribution, you can contribute to a Roth IRA. Unless you're an extremely disciplined saver, you'll end up with more money after taxes in a Roth IRA. Roth IRA conversions require a five-year withholding period before earnings can be withdrawn tax-free and subsequent conversions will require their own five-year withholding period. When a participant transfers a Roth 401(k) balance to a new Roth IRA, the five-year qualification period starts over.

Taking money out of your Roth IRA means you may lose the ability to capitalize on retirement earnings. A Roth IRA can offer flexibility in managing your taxes and expenses in retirement because you can withdraw money without increasing your tax bill, which could be useful if, for example, you have a large one-time expense after you retire. Roth IRAs do not have mandatory minimum distributions (RMD), meaning you are not required to withdraw money at any age or throughout your life. Distributions from a Roth 401(k) are subject to the same general tax rules as a Roth IRA, with the exception of an RMD requirement. Both traditional and Roth IRAs are great long-term savings tools, so it's important to learn about the differences and make an informed decision that fits your retirement goals. If your tax rate is lower now than when you start making withdrawals, you can maximize your tax benefits by making a contribution to the Roth IRA this tax year and receiving tax-free withdrawals in the future, assuming you have met the eligibility requirements. Roth IRAs allow you to withdraw contributions at any time for any reason without taxes or penalties, but just because you can do it doesn't mean you have to, especially if you're quite young.

Ultimately, it's important to consider all of your options when deciding which type of IRA is right for you.