Traditional vs. Roth IRAs: Which is Best for You?
Retirement is something that most working people look forward to. Whether retirement means spending more time with family, crossing things off your bucket list, or taking some much-needed rest, it is important to begin saving as soon as possible. There are many types of retirement plans out there, each suited for specific circumstances. Below is a comparison of the two most popular types of retirement accounts: traditional and Roth individual retirement arrangements.
What are IRAs?
An individual retirement arrangement (IRA) is an account that allows you to make tax-deferred investments to provide financial security when you retire. You can set up these types of accounts with a financial institution, life insurance company, mutual fund, or stockbroker. You can withdraw money from an IRA at any time, but you will be taxed if doing so before the age of 59 ½. There are also limits on how much you can contribute to an IRA each year. For 2023, that limit is $6,500 per year and will be bumped up to $7,000 in 2024. People 50 years of age and older can contribute an additional $1,000 per year. Anyone earning an income is eligible to open an IRA, even those who have a 401(k) or other retirement account through their employer.
A traditional IRA is a way to save for retirement that is tax-deductible, depending on your filing status and income. If you were to contribute $5,000 a year to a traditional IRA account, this could reduce your taxable yearly income by $5,000. When these contributions are later withdrawn during retirement, they are then taxed as ordinary income. That said, if you or your spouse has a retirement plan through your employer, the amount that you can deduct is reduced or eliminated once you reach a certain income. Although you can begin making withdrawals at age 59 ½, you are not required to do so until age 73. Another thing that people don’t often know about traditional IRAs is that you can use the money from these accounts to pay for qualified college expenses without having to pay an early distribution penalty. Similarly, you can use up to $10,000 from a traditional IRA account toward the purchase of your first home without having to pay an early distribution fee. One thing worth noting is that in both of these scenarios, you still pay taxes on the distribution.
A Roth IRA is another way to save for retirement where after-tax dollars are deposited, allowing for tax-free growth and withdrawals. In addition to depositing contributions, Roth IRA accounts allow you to invest your money. These investments will likely earn a return, helping your overall contributions grow. Since this investment growth is not taxed, withdrawals from a Roth IRA at retirement age are also not taxed. You can withdraw from your Roth IRA contributions at any time without penalty. That said, it is worth noting that you cannot withdraw Roth IRA investment earnings until age 59 ½ without penalty. Even so, there are qualified exceptions for withdrawing investment earnings before then, including certain education expenses, disability-related expenses, health insurance premiums while unemployed, and having a baby. One thing that sets Roth IRAs apart from traditional IRAs is that they do not require minimum contributions. You can also decide how much and when you would like to contribute to a Roth IRA account. If you think you may be in a higher tax bracket when you retire, a Roth IRA may be the way to go. Given that these contributions will be withdrawn tax-free, they also offset any possible inflation.
While they sound similar on the surface, traditional and Roth IRA accounts differ greatly. Each is designed for different retirement needs with a similar goal of growing your nest egg. Need help deciding which IRA is right for you? Gulf Winds can help you out.
Hunter has freelanced for various print publications across Northwest Florida, including The Bay Beacon, Navarre Press, Inweekly, and Crestview News Bulletin. He was also the Editor in Chief of the University of West Florida’s student newspaper, The Voyager. In 2022, he was named Best Radio News Reporter by the Southeastern Journalism Conference. Hunter earned his B.A. in Communication Arts/Journalism from the University of West Florida. For fun, Hunter enjoys traveling, visiting museums, photography, thrifting, spending time in the great outdoors, and looking for the best Thai food around.