There are tons of benefits for those that are interested in opening a Roth IRA. But, before I dive in, here is a quick recap what a Roth IRA is:
A Roth IRA is essentially an individual retirement account (meaning that you contribute to it, not anyone else) that allows you to put in money and invest while getting some tax benefits. Contrary to the commonly held belief a Roth Ira is not an actual investment in and of itself. All it does is simply hold money that you can invest with.
Unlike the other typical accounts that also hold money, you can use the funds in this account to invest in things like stocks, bonds, ETF’s, mutual funds, etc. Even though there is an abundance of other investment vehicles out there a Roth IRA has some serious benefits that make them the perfect account for novice and experts alike.
For an ultimate know how of a Roth IRA click here.
Now, moving on to what you came here for:
Benefits of A Roth IRA:
- Flexibility: Any money that is contributed to a Roth IRA, is money that has already been taxed, and paid for. This means that you are able to withdraw to money, whenever you want without incurring any taxes or penalties. Something that other retirement accounts cannot boast about.
There are some limitations however if you want to withdraw earning (growth on the investments. If you take out the earnings before you are 59 and a half years old you will incur a 10% penalty in addition to the income tax that you have to pay on it. After 59 ½ these withdrawals will be filed under qualified distributions.
Another form of qualified distribution is the 5-year aging rule which applies to all earning regardless of age. This rule essentially asks you to wait 5 years after your first Roth IRA contribution before withdrawing your earnings tax free in retirement or with a qualified exception.
- Accessibility: The Roth IRA is at the head of the game for inclusivity. It is truly an account that is easily accessible for everyone and offers very little in terms of discrimination. There is some limitation for those who make an adjusted $139,000 gross income for a single tax filer or $206,000 for a married couple who file jointly.
But I wouldn’t ramble such much about the Roth IRA if there was not a way around that. There is always the option of a backdoor IRA, in which a traditional IRA is converted to a Roth IRA. Beware though because you will have to pay taxes on the contributions that were deducted.
If you also contribute enough tax-deductible income into a 401k (and other pre-tax retirement account) that reduces your income to be within the limits you could also be eligible.
- Tax: The main and most prominent benefit of Roth IRA is simply the fact that it gives you a tax-free retirement. With a traditional IRA individual get a tax break when they deposit money into the account. This contribution is considered tax deductible. This however mean that when it is time to start thinking about settling down in Florida (or Arizona) in our sunset years you’ll have to pay taxes on that money based on your income level.
With A Roth IRA however, you paid for the taxes up front because only post-tax money goes into the account. This means that when it is time to withdrawal money from the account, you would have already cut uncle Sam his slice and you’ll can call it good.
Also, because you already paid the taxes on it there is not RMD’s on it. RMD stands for required minimum distribution. For other retirement account it means that when you reach 70.5 the government to start taking money out of these accounts so you can start cutting them their check for the taxes you didn’t pay in the past.
- Penalty Free Withdrawals
A touched on this a little earlier, but I’ll expand. In life things do not always go as planned. We have unexpected expenses, big tickets items that need to be purchased etc. The Roth IRA takes this into account and allows people to withdraw money from it with no penalty if they….
- Are first time home buyers or those that have not owned a home in more than 2 years can withdraw up to $10,000 of earning from a Roth without getting slapped with penalties. Those people who have also satisfied the 5-year rule then this can be withdrawn without taxer or penalty. Those who have not will pay taxes on the withdraw but will not pay the 10% penalty.
- Those with educational expenses can also use this money. Qualified education expenses are those like paying for college, grad school for yourself, spouse or children. Money can then with withdrawn penalty free, but not tax free if the 5-year rule has been satisfied.
- You are having a child and/or adopting a child. Again, penalty free but not tax free.
- You are using the withdrawal for medical expenses or health insurance for those that are unemployed. Say it with me for the last time, “penalty free withdrawal, but not tax-free” because Uncle Sam always gets his money.
So, after this very detailed benefit list I hope I have managed to persuade you to open an account if you have not ready. Using retirement account to our advantage is key to becoming financially independent.
The benefits of the Roth IRA is even greater the earlier one starts. Taking advantage of it when one is young is crucial because the vast majority of us have lower incomes when we are young. Time is on our side when it comes to investing so it is based to take advantage of it. Compounding interest is a thing and I’ll hate if you did not take advantage of it while you still can. Remember to always invest in yourself first.
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