Advantages and disadvantages of Roth versus traditional IRAs

 

IRA is an important retirement saving tool, especially if a person cannot access a workplace retirement plan. Regardless of the stage you have arrived at in life, it is important to begin thinking and adequately start planning for your life after retirement. Importantly, decisions like beginning to save early can go a long way toward making a noticeable impact in your future life. An individual retirement account (IRA) can provide a side investment other than the normal employer-sponsored retirement plans and also guarantee other benefits in regards to the type of IRA one chooses to invest in since, with the numerous types of IRAs available, they also come with different benefits and requirements the user has to fulfill. Read on to know the advantages and disadvantages of the chosen IRAs, that is, Roth, and traditional IRAs.

Advantages of Roth IRA

Roth IRA provides the user with the freedom to make after-tax contributions towards their accounts. This implies that the money invested in this IRA grows tax-free and further translates to tax or penalty-free withdrawals after attaining the age of 59.5. Generally, this IRA provides exponential benefits to individuals who expect to be grouped at a higher level regarding their future tax brackets when they start initiating withdrawals from their Roth account.

Notably, Roth IRA functions similarly to a normal investment account but further provides tax benefits with fewer limitations as well to the account owner. For instance, an account owner can withdraw money from the account even before the attainment of age 59.5 for any reason they provide and still enjoy the penalty and tax-free benefits within the tax year; the flexibility Roth IRA provides regarding withdrawals is incomparable.

Further, the Roth IRA account owner does not have a required minimum distribution (RMD); this means that the Roth IRA rules do not force one to withdraw money from the account at any age during their life, unlike traditional IRAs, which provide RMD limits.

Disadvantages of Roth IRA

Despite the benefits Roth IRA provides, it also entails notable limitations that the account owner must acknowledge before the IRA. These disadvantages are;

Roth IRA seriously notes the gross incomes of those who want to contribute to the accounts. This means that the Roth IRA does not allow those who do not qualify for the required minimum income limit, and hence, not everyone, especially those in the lower tax brackets, can use Roth IRA.

Similarly, Roth IRAs ensure that they apply penalties to the account owner in case they go for early withdrawals. As much as account owners can benefit from withdrawing their contribution on a penalty-free basis before they can attain retirement age, they are imposed taxation on their earnings and a further 10% penalty arising from their early withdrawals.

With Roth IRA, it means that one is not eligible for an upfront tax break regarding their contributions. This means that in their future withdrawals paychecks, they are offered less money that is available for their utilization, investments or even funds for saving.

Roth IRA does not offer flexibility when one wants to roll over to other types of IRA. Rolling over means the ability of an IRA account owner to flexibly change from one account type in this instance, such as a Roth IRA to another IRA of their choice. Roth IRA ensures that an account owner has continuous access to their funds hence, limiting their rollover.

Advantages of Tradition IRA

If you foresee yourself in a lower tax bracket in the future than currently, it is more reasonable to utilize the traditional IRA. One can benefit more from an upfront tax break offered by the traditional IRA and future lower tax rates. Traditional IRA contributions will extensively lower the taxable income in the annual tax contribution. This translates to lower adjustable gross income, which increases the chances of qualifying for other tax benefits that will otherwise be unattainable. For instance, one would easily qualify for a child tax credit.

As much as the traditional IRA provides for penalties and taxes during contributions and withdrawals, an account owner can still enjoy being exempted from penalties in earnings. For instance, permanent disabilities qualify for penalty exemptions, increasing their withdrawal paycheck.

Also, unlike Roth IRA, a traditional IRA does not provide limitations to any person who wants to have such an account. Traditional IRAs do not limit gross income; it only considers earned gross income.

Unlike Roth IRA account owners, traditional IRA account owners can roll over from this IRA to any of the other desired IRAs, including Roth IRA.

Disadvantages of Traditional IRA  

Traditional IRA ensures that the user begins to receive their distributions based on a required minimum distribution at the age of 72 or 70.5 if attained before 1st January 2020. This indicates that the traditional IRA does not give their account users the freedom to choose whether they would like to start receiving their earnings or postpone the withdrawals to a further date in their lifetime.

Another limitation of the traditional IRA is that taxes in the future are subject to changes in the income tax rates implemented at both the state and federal government levels and hence cannot guarantee lower deductible taxes in the future. This puts the account owner at risk of paying higher taxes, which can affect their withdrawal paychecks.  

Since IRAs are created for retirement, an obvious penalty arises with early withdrawals; however, for traditional IRAs, a 10% penalty is imposed in addition to any other pending deductible taxes accrued during withdrawals, further reducing the withdrawal paycheck.

Conclusion

Depending on your financial condition and goals, you can choose a Roth or standard IRA. While deciding, take into account your tax bracket, retirement date, and other variables. You may choose wisely and increase your savings for a pleasant retirement by knowing the benefits and drawbacks of each plan. Choose the best choice for your particular circumstances by consulting a financial counselor, and begin making plans for the future right away.