Why A Roth IRA?

As we head toward the end of the calendar year, people start thinking about taxes and retirement planning. There are some decisions you can easily make on your own, while some others you should consult a qualified accountant or financial planner.

What is a Roth IRA?

Over the last 10-15 years, there have been many, many sub-types of tax qualified savings and retirement accounts created by Congress. A Roth IRA is one of them. Put simply, a Roth IRA allows you to place POST TAX dollars into a retirement account, which then grows 100% tax free. This means when you withdraw the money after 20, 30 or 40 years, you will owe no taxes on the entire amount. This includes all gains achieved over this time, and the savings can be substantial in the long run.

What are the rules for a Roth IRA?

Before you start an IRA it is important to know all of its rules. Since a Roth IRA uses after tax dollars, it cannot be used to lower your adjusted gross income like a traditional IRA can – meaning no tax write-offs. As the tax rate goes higher, you will have less after tax dollars in which to put into a Roth IRA. There is also a limit on the maximum income one can earn on a yearly basis to qualify for a Roth IRA, which varies over time, so you should consult an accountant or tax planner for assistance on the exact number. One good thing is individuals are allowed to contribute both to a traditional and a Roth IRA – providing the contribution between the two is $5000 or less. The maximum contribution to a Roth IRA per year is your income for the year or $5000, whichever is less. You cannot contribute more than your income to a Roth IRA.

How Do You Convert To A Roth IRA?

If you have an existing IRA, you can choose to convert it over to a Roth IRA beginning in 2010. Funds converted to a Roth IRA from a traditional IRA will become income declared for the next year. If your income is above $100,000 you can spread the tax due over the next 2 years. Remember, if you are over the income limits, you cannot convert to a Roth. A last bit of financial advice – only convert if you can afford to pay the taxes without dipping into the IRA funds themselves – after all, you are trying to grow your retirement and that is a major step backward.

How To Choose Roth or Traditional?

The choice between the two types is not that hard. If you have too high an income, you do not qualify. If you need the tax write-off to pull you down into a lower tax bracket, then contribute to a regular IRA instead. Monies placed into a Roth IRA must be there at least 5 years before you can pull them out – so if you are less than 5 years from the 59 1/2 beginning withdrawal date, and you will need to start withdrawing money, it’s not for you. Lastly, since all dollars grow tax free, the longer you have to grow them the better off you will be. Starting a Roth IRA at 20 is far better than at 40, the tax advantages grow enormously upon withdrawal, because the balance will be substantially higher.

For more information on what kind of Roth IRA is right for you, check out RothIRA.com.