The Difference Between Roth and Traditional IRA
Individual Retirement Accounts, or IRAs, are popular savings accounts designed to help people save for retirement. There are two main types of IRAs: Roth IRAs and Traditional IRAs. While both types have their benefits, there are some key differences between them. In this article, we’ll take a closer look at the differences between these two types of accounts.
Taxation
One of the most significant differences between a Roth IRA and a Traditional IRA is how they are taxed. With a Traditional IRA, contributions are made pre-tax, meaning that they are deducted from your taxable income for the year. This can potentially lower your tax bill in the year that you make the contribution. However, when you withdraw funds from a Traditional IRA in retirement, you must pay taxes on the money you withdraw.
On the other hand, contributions to a Roth IRA are made with after-tax dollars, meaning you pay taxes on the money at the time of contribution. However, when you withdraw funds from a Roth IRA in retirement, you can do so tax-free.
Income Eligibility
Another key difference between Roth and Traditional IRAs is who is eligible to contribute. Traditional IRAs are available to anyone with earned income, regardless of their income level. However, if you are covered by a retirement plan at your job, your eligibility to make deductible contributions to a Traditional IRA may be limited.
Roth IRAs, on the other hand, have income limits for eligibility. If you earn too much, you may not be eligible to contribute to a Roth IRA. In 2021, single filers making over $140,000 and joint filers making over $208,000 are not eligible to contribute to a Roth IRA.
Withdrawal Rules
Finally, there are some differences in the rules for withdrawing money from a Roth IRA and a Traditional IRA. With a Traditional IRA, you must start taking required minimum distributions (RMDs) when you reach age 72. These distributions are taxable and can impact your tax bracket.
With a Roth IRA, there are no required minimum distributions. You can choose to withdraw money at any time after age 59 ½ without penalty, and the withdrawals are tax-free.
In conclusion, both Roth IRAs and Traditional IRAs are powerful tools for saving for retirement. However, the tax treatment, eligibility requirements, and withdrawal rules are different for each. It’s important to understand the pros and cons of each type of account to make an informed decision about which one is right for you.
Table difference between roth and traditional ira
| Feature | Roth IRA | Traditional IRA |
|---|---|---|
| Tax Treatment | Contributions are taxed upfront, but withdrawals are tax-free in retirement | Contributions may be tax-deductible, but withdrawals are taxed as income in retirement |
| Contribution Limits | Up to $6,000 per year ($7,000 for those over 50) | Up to $6,000 per year ($7,000 for those over 50) |
| Age Limit for Contributions | No age limit | Cannot contribute after age 70.5 |
| Required Minimum Distributions (RMDs) | Not required during your lifetime | Required starting at age 70.5 |
| Income Eligibility | No income limit for contributions | May be limited if you or your spouse participates in a retirement plan at work |
| Withdrawals Before Age 59.5 | You can withdraw contributions at any time tax-free and penalty-free, but earnings may be subject to taxes and penalties | Withdrawals before age 59.5 may be subject to taxes and penalties |