In 2013, over 30 percent of households in the United States did not have a formal retirement savings or pension plan1*. That’s a pretty scary thought when the cost of living keeps going up.
It’s important to invest in yourself at a young age so you don’t have to try to play catch up later in life when you have other financial obligations to worry about, like a mortgage and your kid’s college fund. We're glad you're taking the time to learn about the different retirement options so you can make an educated choice about the best plan for you. Last week we shared some info about Traditional IRAs, so what's the difference between this and a Roth IRA?
What is a Roth IRA?
Unlike a 401(k), there are no employer contributions to a Roth IRA and your employer is not involved in the plan. Without the confines of pre-picked options, you have the freedom to decide where you want your money to go and when to add a contribution. Unlike a Traditional IRA, there are no mandatory withdrawals once you reach age 70 ½ with a Roth IRA.
The Benefits of a Roth IRA
In this plan, your money is taxed before it's invested. This means that it might take longer to save. But when you withdraw money during retirement, you won’t have to pay any taxes on it (see below). You’ll decide how you want your money to be disbursed when you set up the account. You won’t be taxed on any income you gain from your investment.
Keep This in Mind
You can withdraw regular contributions tax-free and penalty free at any time. A withdrawal of conversions or rollovers may be subject ot a tax penalty if withdrawn within five years of being converted or rolled over. When you make a withdrawal of earnings from a Roth IRA, it must be considered a qualified distribution or it will be subject to an income tax and other fees may apply. You can make an eligible withdrawal five tax years after your first contribution, and if you meet one other criteria:
- You’ve reached age 59½
- You are disabled
- First time home buyer
- Death, in this case a distribution is made to the beneficiary
Unfortunately, contributions to a Roth IRA are not tax deductable. This might seem like a downside to the account, but remember that you don't have to pay taxes on anything you earn or any money you withdraw (if you meet the above requirements).
You never know what life is going to throw at you, so it's better to start saving now while you're able versus waiting until it's too late. Even putting a few dollars away each month for your retirement is better than not doing anything. An investment account, like a Roth IRA, can have a huge impact on your savings for the future.
SEE ALSO: Retirement Planning: What is a Traditional IRA?
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1 U.S. Department of the Treasury. Board of Governors of the Federal Reserve System. (2013). Report on the Economic Well-Being of U.S Households in 2013. Retrieved from http://www.federalreserve.gov/econresdata/2014-economic-well-being-of-us-households-in-2013-retirement.htm#xb50a1ee4