Traditional IRA vs. Roth IRA

Individual retirement accounts (IRAs) can be a great supplement to retirement savings in addition to a 401(k) if you’re contributing enough to receive a full match from your employer, or you’re planning on maxing out your 401(k). If you don’t receive a match on your 401(k) or it has narrow investment options or high fees, it may also be good to invest in an IRA.

When I discuss IRAs with my clients a frequent question they ask is: "What's the difference between a traditional and a Roth individual retirement account and which one is appropriate for me?"

Here's how I answer the question:

IRAs are specially designed to help you save for retirement. There are two main types of IRAs---Traditional and Roth. Each has its own distinct features. When analyzing whether a Traditional or Roth IRA is appropriate for you, one of the key decision points is when you want to pay income taxes on your savings.

Traditional IRAs offer tax-deferred growth potential. You pay no taxes on any investment earnings until you withdraw or "distribute" the money from your account, presumably in retirement. Additionally, depending on your income your contribution may be tax deductible. Deferring taxes allows for a potentially greater accumulation of wealth. Due to the Setting Every Community Up for Retirement Enhancement Act (SECURE Act), beginning in tax year 2020, there is no maximum age restriction for making a Traditional IRA contribution, as long as you and your spouse, if filing jointly, have earned income.

Likewise, Roth IRAs offer a tax-free growth potential, too. However, unlike traditional IRAs, Roth IRA investment earnings are distributed tax-free in retirement, if a five-year waiting period has been met and you are at least 591/2, or as a result of a death, disability, or using the first-time homebuyer exception. Since contributions to a Roth IRA are made with after-tax dollars, there is no tax deduction regardless of income. You can contribute at any age as long as you, or your spouse, if filing jointly with your spouse, have earned income and are within or under modified adjusted growth income (MAGI) limits.

In the 2021 tax year, Roth IRA contributions are phased out based on the following MAGI:

• Full contribution if MAGI is less than $125,000 (single) or $198,000 (joint)
• Partial contribution if MAGI is between $125,000 and $140,000 (single) or $198,000 and $208,000 (joint)
• No contribution if MAGI is over $140,000 (single) or $208,000 (joint)

Both traditional and Roth IRAs are sound choices to help you prepare for the future.

You can have both. As you compare Roth vs. traditional IRAs, you should know that this isn’t an either-or equation. Provided that your annual contributions can stay within the government’s guardrails, you can put both of these investing vehicles to work and enjoy a balance of tax breaks between now and years into the future.

Ready to learn more about the benefits of investing in traditional and Roth IRAs? Let's connect.

About the Author

Matt Urbanski joined Healy Group in 2001 and became an owner in 2016. He's also the division leader for Healy Financial.

Matt enjoys working with young business professionals, academics, and business owners. His areas of expertise include: asset protection in the areas of disability income and life insurance; funding strategies for college, retirement plan rollovers, and other tax-deferred savings programs.

Investors' anticipated tax bracket in retirement will determine whether or not a Roth account versus a traditional retirement account will provide more money in retirement. Generally investors who are in a higher tax bracket at retirement relative to their current tax bracket while making contributions to a Roth account benefit more than an investor who is in a lower tax bracket at retirement. For a Roth IRA, earnings withdrawn prior to reaching age 59½ and/or not meeting the five-year holding period may be subject to a 10 percent penalty in addition to income tax. After-tax contribution amounts are generally returned income tax free; however, for Roth conversions, if converted amounts are not held for the five-year period, distributions may be subject to a 10 percent penalty