The Advantages and Disadvantages of a Roth IRA

Source: iStock
Source: iStock

Roth IRAs have been around for well over a decade now, but many people are still not familiar with what they are and how they work. The Roth IRA can be a great way to invest your money for retirement if you are aware of both the many advantages as well as disadvantages of this investment opportunity.

What is a Roth IRA?

The Roth IRA is a retirement account that can be opened by you individually or by you and your spouse. While any contributions you make into a Roth IRA are not tax deductible, it can still offer a very valuable future source of income when you retire. All money you receive including the interest earned from your investments can be withdrawn from the account during retirement tax-free giving you a source of added income that is not subject to most income tax laws levied by the IRS.

Roth IRAs make the most sense if you expect to be in a higher tax bracket when you retire compared to the tax bracket you are currently in now while you are working. While this might sound impossible, based on other retirement accounts you could actually be moved up into a higher tax bracket, as your income will appear higher than when you were working. By choosing to place your money into a Roth IRA, you can shield this money from taxes giving you even more income in your retirement.

Advantages of a Roth IRA

  • Flexibility – The Roth IRA allows you to withdraw your money tax-free as long as the account has been open for at least five years and you are 59.5 years old. However, you can withdraw the money at any time and there are other circumstances that allow you to withdraw the money tax free if you don’t meet those criteria. They include a death in the family, disability of the account owner, or education.
  • No mandatory withdrawals – Traditional IRA accounts require that you begin to withdraw money at the age of 70.5. Roth IRAs don’t require you to ever take a withdrawal if you choose not to, although any money in the Roth IRA that is passed on to other generations must be taken as a distribution over their lifetimes.
  • Saving during retirement – Unlike some retirement accounts, Roth IRAs allow you to keep saving even after your retirement. In fact, you can continue to contribute through your retirement if you work as long as you don’t exceed the income requirements and you can even pass this money to other family members after your death.

Disadvantages of a Roth IRA

  • Not Tax Deductible – Any contributions you make to a Roth IRA are not tax deductible so you won’t be able to save money on your yearly taxes. A traditional IRA, on the other hand, is tax deductible.
  • Contributions Don’t Reduce Gross Income – Any money you contribute to a Roth IRA doesn’t reduce your gross income, so you won’t be able to receive other tax breaks as a result of showing a lower income. Traditional IRA’s do reduce your gross income giving you access to a variety of tax breaks.
  • Income Limits – Unlike traditional IRAs, if your income exceeds a certain amount you are not eligible to contribute to an IRA. This can cause problems with your retirement accounts if you opened a Roth IRA and then your income grows beyond the contribution eligibility limits. For individuals, this limit is $114,000 for an individual and $191,000 for married families.

The Roth IRA is a great way to save for retirement assuming you meet the required guidelines for opening a Roth IRA account. They are more flexible than many other retirement savings accounts such as a traditional IRA and offer many tax benefits compared to other retirement investment accounts. However, depending on your financial status and your life, you may not receive the best tax benefits offered by the Roth IRA.

The Roth IRA can be a valuable tool to gain access to tax-free income in retirement but it might not be the best fit for your particular situation. You must examine your financial outlook carefully before opening a Roth IRA retirement account to be sure you will receive the full set of benefits from these types of accounts.
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