Roth vs. Traditional IRA: Which One is Best for You?

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Investing money always involves risks. But, the most important part of investing is the planning stage which involves choosing the best option for your current situation. Today we will talk about the Roth IRA vs The Traditional IRA. These are the most common choices a person has when it comes to saving for retirement outside and employer sponsored plan.

There are different factors to consider when you are going to set-up an IRA. You have to consider your current situation and your long term plans. Your current situation like your age, marital status, income and other retirement plans should be taken into consideration as well as your long term goals, time frame to invest, taxes, and fees.

When is the Roth IRA beneficial?

  • If you are in a low tax bracket, the Roth IRA is beneficial because you will have the ability to contribute after tax money at low tax rates and withdraw your money tax free (hopefully, when you’re in a higher tax bracket). If you think your tax bracket will increase in the future take advantage of the Roth IRA.

 

  • If you are near retirement age or near the age of 70 ½, the Roth IRA is for you. It is the only IRA that allows contributions beyond 70 ½.

 

  • If you do not want to be forced to withdrawal your money. The traditional IRA has required minimum distributions or RMD’s. At 70 ½ you are required to take money from your Traditional IRA. Fortunately those who invest in a Roth IRA do not have this problem. You can keep your money in the IRA as long as you like without worrying about it.

 

  • If you want to withdrawal your before 59 ½ without penalty. The Roth IRA allows withdrawal of contributions any time after 5 years from your first contribution without subjecting the withdrawals to a 10% early withdrawal penalty.

When is the Traditional IRA beneficial?

  • If you want immediate tax benefits then tax-deductible contributions are better. Traditional IRA contributions are tax deductible if you meet certain guidelines and restrictions.

 

  • If you do not qualify for a Roth IRA! If you exceed the income requirement to invest in a Roth IRA you can always invest in a Traditional IRA. Most likely you will not get to deduct your contributions but at least you can invest tax free until you take the money out. Keep in mind there is a back door way to invest in an Roth IRA even if you have a very high income.

 

  • If you think your tax bracket will be lower in the future. When you invest in a Traditional IRA you will pay taxes when you withdrawal. For example, if you’re in the 25% tax bracket now and expect your tax bracket to be 15% when you need the money you can save 10% on taxes by using the Traditional IRA over the Roth IRA. The reason being is that with the Roth IRA you pay taxes before investing. Meaning you will be investing after being taxed at 25% only to withdrawal the money at 15% later.

If you are still undecided between Roth vs. Traditional IRA and there is a possibility that you will change your mind in the future, a traditional IRA has the flexibility of being converted to Roth IRA in the future. The converted Roth IRA however cannot be reverted to Traditional IRA.

After gathering all you need to know about both types, between Roth vs. Traditional IRA, which one do you think is best for you? Don’t forget to check out the investing alternatives to your 401k!

2 Responses to “Roth vs. Traditional IRA: Which One is Best for You?”

  1. Evan @ Smartwealth March 27, 2012 at 8:09 pm #

    I guess it must be Roth IRA week around here =) Roth IRA or a traditional IRA are very necessary to have for an investor. I lived for a while investing only into my 401k and now I wish I would have enrolled into a Roth IRA even sooner.

  2. Karunesh @ chase-a-dream.com March 27, 2012 at 5:07 am #

    Roth and Traditional IRA can be confusing. Thanks for sharing :)