02/15/2017
Roth IRAs vs. Traditional IRAs

Roth IRAs vs. Traditional IRAs

A Roth IRA has certain advantages for workers and retirees. Those who contribute to regular (or traditional) IRA accounts should examine whether a Roth IRA makes more sense for their situation.

One advantage of a traditional IRA is that contributions are tax deductible. While contributions, or conversions, to a Roth do not come with an immediate tax advantage, they do have long-term benefits.

You can withdraw contributions you make to a Roth IRA at any time without any penalty. Under a traditional IRA, if you make a withdrawal before age 59 ½ you are subject to a 10% penalty and on top of incurring income taxes. If you keep a Roth account until age 59 ½ with contributions spanning at least five years, none of the withdrawals, including earnings and capital gains, are taxable.

Your beneficiaries would not incur any income tax liability either. On the other hand, withdrawals from regular IRAs are taxable at ordinary income rates for original IRA contributors and their beneficiaries.

Unlike traditional IRA accounts, under Roth IRAs there is no requirement for the account holders to make scheduled withdrawals at age 70 ½. Those mandatory amounts for regular IRAs vary depending on the value of the IRA and life expectancy. Often those amounts exceed what account holders would prefer to withdraw.

After age 70 ½ you are allowed to make Roth contributions from earned income, but under traditional IRAs, you are not permitted to do so.

IRAs and Tax Filing

When filing a joint return for 2016, you can contribute $5,500 to a Roth if your combined income is below $184,000. For any income between $184,000 and $194,000, you are allowed a prorated contribution. If you reached age 50 before the end of 2015, you are allowed an additional $1,000 contribution.

If you are filing independently and you earned less than $117,000, you can make a maximum contribution of $5,500, and for income between $117,000 and $134,000, you can make a prorated contribution. Again, if you turned 50 before the end of 2015, you are permitted an additional $1,000 contribution.

For income exceeding those amounts, you are not allowed a Roth contribution. However, you can make a regular IRA contribution and convert it to a Roth account in a subsequent year. There are now no limits on the amount you can convert from a regular IRA to a Roth IRA, but you would incur income tax liability based on your conversion. Partial conversions of multiple years can minimize total tax liability.

When planning your estate, identify your IRA beneficiaries to your financial institution. While beneficiaries will not incur tax liability from Roth withdrawals, they are required to make withdrawals based on their life expectancy. Younger beneficiaries are better able to stretch out withdrawals.

Roth accounts can provide many advantages, so discuss the pros and cons of different types of contributions with your financial planner.

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