The world of individual retirement savings accounts isn’t exactly known for its rapid innovation process. Consider version 2.0 of the IRA — the Roth IRA. The account’s key features have barely changed since it was rolled out in 1997.
That’s not necessarily a knock. In fact, it could be considered an accomplishment because, all these years later, the benefits of the Roth continue to serve consumers well.
Below are five of the most notable advantages the Roth IRA offers over other retirement accounts.
1. Tax-free retirement income
The most obvious difference between a traditional IRA and the Roth is the tax-savings value proposition. A traditional IRA offers an upfront tax break: Contributions may be deductible in the year they are made to the account. When money eventually leaves the account to be spent in retirement, Uncle Sam puts on his toll collector uniform and claims those income taxes.
With the Roth, you have to wait longer for the tax-savings payoff. But it’s definitely worth it, especially for those who predict their tax rate will be higher later than it is now.
Because you took care of your tax tab upfront — funding the account with post-tax dollars (remember, Roth contributions are not deductible) — as far as the IRS is concerned, its business with you is complete. When you start making withdrawals in retirement you owe nothing — not even for the earnings on your investments, unlike with a traditional IRA. The money is yours, free and clear.
2. Easier early access to the money
Ideally, the money you put away for retirement remains squirreled away and untapped until retirement. But for times when current financial needs impinge on future intentions for your savings, the Roth is equipped with better early withdrawal terms than the traditional IRA.
When your emergency fund needs access to an emergency fund, a Roth is a better bet.
Money for nonqualified withdrawals from a traditional IRA before age 59 ½ comes with both a bill from the IRS for income tax on the amount cashed out and a 10% early withdrawal penalty. Oof.
You can dodge both with a Roth as long as the money you withdraw comes from your contributions and not earnings. This makes it a more reasonable choice when your emergency fund needs access to its own emergency fund. (Just be sure to follow IRA early withdrawal rules to the letter to avoid triggering a taxable event.)
3. Less ageist withdrawal rules
Eventually, it’ll be time to tap into the money you’ve saved in an IRA to pay for expenses in retirement. Money in a traditional IRA is subject to RMDs, or required minimum distributions, which means savers are required to start withdrawing from their accounts at age 70 ½. Forget to cash the check, and the IRS could hit you with a punishing 50% penalty excise tax on the amount you didn’t withdraw.
The Roth, on the other hand, is RMD-free: Original account holders are free to let all of their money stay put for as long as they are alive, which means:
- Investments can continue to marinate in their tax-free growth status within the account
- Investors can avoid selling assets at a bad time. In a traditional IRA, forced withdrawals mean cashing out investments regardless of market conditions. In a down market year, that could mean selling at a loss.
The Roth’s lack of ageism also extends to contributions to the account. Whereas the traditional IRA contribution door slams shut age 70 ½, the IRS lets hearty old-timers funnel money into a Roth as long as they’re earning income.
4. Better terms for your heirs
Looking to secure the posthumous adoration of your beneficiaries? That’s one of the possible benefits of a Roth IRA, too.
Unlike money left via a traditional IRA or other retirement accounts, such as a 401(k) — where the requirement to pay taxes on withdrawals passes down to heirs — distributions from an inherited Roth IRA are tax-free. And while non-spouse beneficiaries of a Roth IRA are subject to annual minimum withdrawal requirements, the Roth offers surviving spouses another special perk: no required minimum withdrawals.
5. Almost anyone can contribute to one
The previous four benefits may have convinced you to open a Roth IRA (here’s how and where to do that), but your plans may be thwarted because your income puts you above the Roth’s eligibility limits — $118,000 in modified adjusted gross income for single taxpayers in 2017. But here’s one more perk: a workaround to the income limit rules.
Not eligible to open a Roth? No problem. There’s a workaround for that.
With a little fancy footwork, an existing traditional (or even a nondeductible IRA) IRA can be converted into a Roth. The catch is, of course, taxes: You’re required to pay income taxes on any contributions that were deductible, as well as any investment gains within the account before the conversion. Once you’re done settling your tab, voila: You have a Roth replete with all the built-in benefits.