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X Traditional IRAs vs. Roth IRAs
Posted on September 11, 2020

Traditional IRAs vs. Roth IRAs

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by Rick Wurst, Wealth Advisor

Most people save for retirement by contributing to their employers’ retirement plan such as a 401(k) or a 403(b). Most people don’t think of contributing to an IRA. You may be able to contribute to an IRA even if you are contributing to your employer’s retirement plan. There are two main types of IRA’s: traditional IRA and Roth IRA.

The traditional and Roth are the most popular types of IRA accounts. Contribution limits for IRAs in 2020 are $6,000 – or $7,000 if you’re 50 years old or older.

The biggest difference is the tax advantage each provides. Here is the difference between the traditional and the Roth IRAs.

 

Roth IRA

Traditional IRA

Tax benefits

Tax-free growth potential and tax-free qualified withdrawals.

Tax-deferred growth potential and tax-deductible contributions.

Age requirements

Contribute at any age.

Contribute at any age.

Income requirements

Your income affects how much you can contribute.

Everyone 18 or over with earned income can contribute to a traditional IRA. However, there are specific income limits for how much might be tax-deductible.

Withdrawal taxes

You’re able to withdraw your contributions tax- and penalty-free at any time, for any reason. You won’t pay federal taxes on your earnings, as long as the five-year aging requirement has been met and you reach age 59½.

You will pay taxes when you withdraw your pre-tax contributions and when you withdraw any earnings.

Early-withdrawal penalties

If you make withdrawals before you’re 59½, you might have to pay taxes on your earnings plus a 10% additional tax.

If you make withdrawals before you’re 59½, you might have to pay taxes on your contributions and earnings plus a 10% additional tax.

Required minimum distributions (RMD’s)

RMDs do not apply during your lifetime.

RMDs must be taken starting in the year you turn 72.

Traditional IRA

  • With a traditional IRA, you can make contributions that you can deduct on your current tax return. However, once you withdraw your contributions in retirement, they will be subject to taxation based on the tax bracket you’re in during retirement.
  • The income limits for a traditional IRA in 2020 go as follows:
    • If you’re married filing jointly and covered by a retirement plan at work, you can get a full deduction if your modified AGI is $104,000 or less, a partial deduction if your modified AGI is more than $104,000 but less than $124,000, and no deduction if your modified AGI is more than $124,000
    • If you’re married filing jointly and your spouse is covered by a retirement plan at work and you are not, you can receive a full deduction if your modified AGI is less than $196,000, a partial deduction if your modified AGI is more than $196,000 but less than $206,000, and no deduction if your modified AGI is more than $206,000
    • If you’re single or head of household and are covered by a retirement plan at work, you can receive a full deduction if your modified AGI is $65,000 or less, a partial deduction if your modified AGI is more than $65,000 but less than $75,000, and no deduction if your modified AGI is $75,000 or more
    • If you’re married filing separately and both you and your spouse are covered by a retirement plan at work, a full deduction is unavailable, and you will receive a partial deduction if your modified AGI is less than $10,000, and no deduction if your modified AGI is more than $10,000

Roth IRA

  • Unlike a traditional IRA where your current tax bill is reduced based on the amount of money you contribute, contributions to a Roth IRA are not tax-deductible. However, in this type of individual retirement account, your contributions grow tax-free, and once you’re in retirement, you can withdraw your contributions tax-free, as well.
  • Income limits for a Roth IRA in 2020 go as follows:
    • If you’re a qualifying widow(er) or married filing jointly, you can make a full contribution if your modified AGI is $196,000 or less, a reduced contribution if your modified AGI is between $196,000 to $205,999, and no contribution if your modified AGI is $206,000 or more.
    • If you’re single, head of household, or married filing separately and didn’t live with your spouse during the year, you can make a full contribution if your modified AGI is less than $124,000, a reduced contribution if your modified AGI is between $124,000 and $138,999, and no contribution if your modified AGI is $139,000 or more.
    • If you’re married filing separately and did live with your spouse at any point during the year, you can’t make a full contribution, can have a reduced contribution if your modified AGI is less than $10,000, and no contribution if your modified AGI is $10,000 or more.

Contributing to an Individual Retirement Arrangement (IRA) is an excellent way to grow your financial wealth over time.

In fact, if you don’t have one, you may be missing out.