Tuesday, March 27, 2012

Ace of the Retirement World - The Roth IRA

There are many types of retirement accounts out there, including: SEP IRA, Simple IRA, 401(k), standard IRA, 403(b), and Roth IRA. Today, we are going to focus on one! That one happens to be one of the most flexible and potentially one of the most advantageous retirement accounts available - the Roth IRA.

Why the Roth you ask? Let's take a look at some of the biggest advantages.
  1. You are putting in "after-tax" money, and once your money is inside this account, your money is now free from taxes - FOREVER!! Your money can grow without the hindrance of any sort of taxation. How great is that!? 
  2. There is no rule regarding when you are forced to start withdrawing money, like there is in a 401(k) or IRA. In a typical retirement account, an individual must begin taking distributions once they reach age 70 1/2. A Roth has no such requirement, which means you can withdraw your money when YOU want to or use it as part of your estate plan to pass on to future generations. 
  3. The more the merrier! You can contribute to a Roth even if you are already participating in a 401(k) plan through your employer. 
  4. You can get more dollars inside a Roth than you can a regular IRA. Granted, both have the same $5,000 limit ($6K if you are over 50 years of age), but in a regular IRA, only $3,750 is yours, assuming you are in a 25% tax bracket. In a Roth, all $5,000 is yours and it all grows tax free and can be withdrawn tax free. 
  5. If you need (really need) the money, you can always withdraw your contributions tax free and penalty free. I would highly discourage this, as this account is meant for retirement, but if needed, your funds are accessible without large tax penalties. 
"There has to be at least one drawback to a Roth," you say. And you would be correct. The main drawback is that you simply don't get a current year tax deduction for your contributions. 

You are now convinced and want to jump all over contributing to a Roth IRA, right? Before you do, you should know some of the income limitations:
  • For 2012, you can fully contribute to a Roth IRA if your modified adjusted gross income (MAGI) is less than $110,000 for single filers, or $173,000 for those who are married filing jointly. 
  • The contribution limit is completely phased out if your MAGI is above $125,000 for a single filer, or $183,000 for those who are married filing jointly. 
Important! Do not dispair. If your income is higher than the limits noted above, you can still fully fund a Roth IRA. This can be done by making your contributions to a non-deductible regular IRA account and then rolling them into a Roth. Using this method will allow anyone, regardless of income, to participate in a Roth IRA. 

In addition, more and more companies are making Roth 401(k) plans available to employees. These in effect combine the higher contribution limits of 401(k) plans, with the advantages of a Roth. 

While Roth accounts are great, they are not guaranteed smart moves. Nothing in investing actually is. That is where risk and return come into play. You can't have one without the other. If tax rates are significantly lower when you are in retirement, a Roth may not be so great. If the U.S. Government decides to change laws, well, that could easily derail the tax advantages you were counting on. Knowing what we know now, Roth IRAs and Roth 401(k)s could very well be great additions to your retirement plan. 

Invest well! 

Disclaimer: You should consult with your investment advisor and/or tax advisor before making these decisions. This article is intended to provide surface level information and is not suitable for all situations.