Retire Tax Free With a Roth IRA
A Retirement Savings Option That Doesn’t Tax Upon Withdrawal
Apr 6, 2009
Workers should begin saving for retirement as soon as possible, preferably at the time of the employee’s first job. Whether a 401(k), IRA, or other retirement investment vehicle, compounding interest over time is the key principle in creating wealth for retirement. And because the long-term viability of the U.S. Social Security system continues to be debated, it’s all the more reason to start saving for retirement early.
Retirement Planning: What Is a Roth IRA?
The Roth IRA (individual retirement account) is a relatively new retirement investment option. Established in 1997, the Roth IRA was set up to provide those saving for retirement with a tax-free retirement plan rather than a tax-deferred plan as per a traditional IRA or a 401(k). In other words, while taxes are paid by the retiree at the time of withdrawal per a traditional IRA, a Roth IRA is tax-free.
Retirement Planning: Who is Eligible for a Roth IRA?
The most common retirement savings option for employees is the 401(k) retirement plan. Particularly if the employer offers matching contributions, employees should definitely take advantage of this retirement savings option. The Roth IRA is an alternative option that is available to people who are looking to save additional money for their retirement on a tax-free basis, or those who are limited by maximum contributions on their 401(k) retirement plan.
Retirement Planning: Roth IRA Contributions
The Roth IRA allows for contributions of up to $5,000 for those under age 50, or $6,000 for those 50 and over in 2008. Allowable contributions are based solely on wages rather than dividends or interest. For married couples, the contribution limit is based on both person’s combined income. Contributions can be made in increments throughout the year and can be made between January 1 and April 15 for the previous tax year.
Retirement Planning: Roth IRA Benefits and Drawbacks
The Roth IRA has numerous benefits for those wondering how to get started saving for retirement. The most obvious benefit is that the Roth IRA is tax-free upon withdrawal at age 59-1/2. However, direct contributions can be withdrawn at any time without penalty provided the account has been active for five years. Other important facts about Roth IRAs include:
- Roth IRAs are easier to administer. Taxpayers don’t have to report contributions to the IRS since a Roth IRA is tax-free rather than tax-deferred per a traditional IRA. However, this means that contributions are not tax-deductible.
- Contributions are tied to wages and filing status.
- Roth IRAs do not place an age limit on withdrawal (such as a traditional IRA at age 70-1/2). Thus, a Roth IRA can be passed down to heirs.
- Roth IRA contributions can be withdrawn without penalty for the purchase of a new home, disability, or death.
Retirement Planning: The Bottom Line on Roth IRA
Bottom line, a Roth IRA has many advantages over a traditional IRA. With its wide-ranging benefits including tax-free withdrawals, ease in administration, and no age limitations for withdrawals, the Roth IRA is a very useful retirement savings option. While those who would like to offset their tax costs with deductions from IRA contributions won’t find much solace in a Roth IRA, the Roth IRA is nonetheless an excellent retirement investment vehicle for virtually everyone else.
See related articles, "Retirement Planning for the Self-Employed," and "Retirement Planning 101."
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