What Is a Roth IRA? Everything You Need to Know

Investing, Retirement Planning, Roth IRA
roth-ira

The Roth IRA is the golden child of the retirement planning world. Investors, financial advisors and online brokers have been singing the praises of this individual retirement account since it was introduced in 1997, and for good reason: It is one of the most effective ways to save for retirement today.

Read on to learn more about these accounts, or choose one of the options on the left to jump to a specific section.

What is a Roth IRA?

A Roth IRA is a tax-advantaged individual retirement account. Your contributions are made after tax, which means there’s no initial tax benefit. But that money and your investment earnings grow tax-free, meaning there’s no income tax on Roth IRA withdrawals in retirement.

There’s a common misconception that a Roth IRA is in itself an investment. It isn’t. Instead, it’s an account that holds your investments. You open a Roth IRA at a brokerage, then select from its investment options, which will include individual stocks, bonds, mutual funds and, in some cases, more aggressive investment strategies like options.

What are the benefits of a Roth IRA?

The Roth IRA has a lot of high points:

  • It allows for contributions of up to $5,500 per year, and you can use it in addition to a 401(k).
  • Investors 50 and older get to contribute an extra $1,000 a year as a catch-up contribution.
  • The account is not subject to the sorts of minimum distributions typically required from a traditional IRA and a 401(k) beginning at age 70½. This means you can use a Roth to pass on money to your heirs.
  • You’re contributing after-tax dollars, so you lock in taxes paid at your current tax rate, not the rate you’ll be at when you retire. If you expect your tax rate to go up, either because of across-the-board legislative increases or because you’re at the beginning of your career, this could be a large savings. It makes Roth IRAs especially attractive to younger workers.
  • Because you’ve already paid taxes on your Roth contributions, you can withdraw them without tax or penalty before you retire. You may, however, be taxed or penalized if you withdraw your investment earnings.
  • You can use Roth IRA money to pay for qualified college expenses without an early distribution penalty, so you can use the account to supplement or as an alternative to a college savings account like a 529 plan. There are no limitations on how you can use contributions, but distributions of earnings may be taxed.

Once you hit 59½ and you’ve held the account for at least five years, you can take distributions, including earnings, from a Roth IRA without paying federal taxes. This is the biggest difference between the Roth and traditional IRA: The traditional IRA nets you a tax deduction on contributions for the year you make them, but distributions are taxed in retirement.

Are you eligible for a Roth IRA?

Here’s the one downer: Because of their tax superiority, Roths aren’t available to high earners.

In 2017, Roth IRA income limits mean the amount you can contribute begins to dwindle at $118,000 in income for single filers and $186,000 for those married filing jointly. The contribution limit then slowly phases down until your ability to contribute is eliminated completely.

Filing status2017 modified AGIMaximum contribution
Married filing jointly or qualifying widow(er)Less than $186,000$5,500 ($6,500 if 50 or older)
$186,000 to $195,999Contribution is reduced
$196,000 or moreNot eligible
Single, head of household or married filling separately (if you did NOT live with spouse during year)Less than $118,000$5,500 ($6,500 if 50 or older)
$118,000 to $132,999Contribution is reduced
$133,000 or moreNot eligible
Married filing separately (if you lived with spouse at any time during year)Less than $10,000Contribution is reduced
$10,000 or moreNot eligible

One note for high earners, however: A backdoor Roth IRA strategy, which involves converting a traditional IRA into a Roth IRA, may allow you to sidestep these income limits.

» In the phase-out range? Our Roth IRA calculator works out your reduced contribution limit.

Where can you open a Roth IRA?

Most online brokers, banks and robo-advisors offer Roth IRAs. You’ll want to look for a provider that has low account fees, a large selection of no-transaction-fee mutual funds and commission-free exchange-traded funds, and strong customer service. You should also consider the IRA provider’s account minimum, though most companies keep this reasonable considering the overall contribution limit of $5,500 per year.

Choosing the right provider for you

A good first step in the Roth IRA shopping process is deciding whether you want to take a hands-off approach to investing — in which case a robo-advisor and its automated investment process might be appealing — or a more active approach to choosing your investments, which might make a traditional broker more attractive.

NerdWallet’s highest-ranked providers for hands-off Roth IRA management are Betterment and Wealthfront. Robo-advisors employ computer algorithms to offer investment plans tailored to your goals and time horizon, all for a fraction of the cost of traditional investment advisors, and the companies below are two of the pioneers and leaders in this space today.

BrokerHighlightsCommissionsAccount MinimumCurrent OffersStart Investing
Betterment
Betterment
Show Details
Offers access to human advisors for additional fee.
Commissions
0.25%management fee
Current Offers
Up to 1 year
of free management with a qualifying deposit
Open an account
on Betterment's secure website
Show Details
Wealthfront
Wealthfront
Show Details
Free management of first $15,000; advanced tax optimization strategies.
Commissions
0.25%management fee
Current Offers
$15,000
amount of assets managed with no fee
Open an account
on Wealthfront's secure website
Show Details

Two of NerdWallet’s top picks for conventional Roth IRA brokerages are TD Ameritrade and E-Trade. These brokers appear in NerdWallet’s rankings because of their low costs, large mutual fund selections and no account minimums.

BrokerHighlightsCommissionsAccount MinimumCurrent OffersStart Investing
TD Ameritrade
TD Ameritrade
Show Details
Top research; two powerful trade platforms; educational content
Commissions
$6.95
per trade
Current Offers
$100-$600
in cash bonus with a qualifying deposit
Open an account
on TD Ameritrade's secure website
Show Details
Etrade
Etrade
Show Details
Large selection; reasonable commissions and fees
Commissions
$6.95
per trade
Current Offers
60
days of commission-free trades with a qualifying deposit
Open an account
on Etrade's secure website
Show Details

» Want the deep dive? See our comprehensive analysis of the Best Roth IRA account providers.

And if you’d like a step-by-step guide to opening your first Roth, check out our guide to this process below.


Man researching Roth IRA

How and Where to Open a Roth IRA


Arielle O’Shea is a staff writer at NerdWallet, a personal finance website. Email: aoshea@nerdwallet.com. Twitter: @arioshea.

Updated April 25, 2017.