Roth Vs Traditional Ira - Making Sense Of Individual Retirement Accounts

A frequently asked question concerns the Roth Vs Traditional Ira difference. What is the difference between these two individual retirement accounts? Which is right for you? This article answers the question.

Overview of Roth Ira and Traditional Ira

Both Roth Ira and traditional Ira are personal accounts that individuals can open specifically for saving for retirement.

A traditional Ira account, otherwise known as an individual retirement account is an account where you deposit money to save for your retirement. It comes with some advantages and disadvantages which you have to explore before you can choose this kind of account.

The Roth Ira is a close cousin of the traditional Ira account. It is a retirement saving account except that the savings are not tax deductible right away but are not taxed on distribution or pay out. It has few restrictions unlike the traditional Ira.

Of course one can contribute to both Roth and Traditional Ira. Also, there circumstances where one will want to covert traditional Ira to Roth Ira.

There are many ways to save for one's retirement. (See 401K and Traditional Ira) It is very important to be well informed especially because few employers do offer retirement plans. Even in cases where it is offered corruption and mismanagement abound. It means that individuals have to be proactive in managing their retirement saving.

By choosing these retirement savings plan you can make monthly or yearly contributions into a Roth or IRA account. These savings are not taxed until withdrawn. These contributions can be held at a bank or brokerage firm and can be invested in any choice of ventures including stocks, certificates of deposit or mutual funds. All earnings and profits will remain untaxed as long as they remain in the account.

Why Choose A Traditional Ira?

The main advantage of the traditional Ira is the tax savings offered. Also the tax benefit is applied immediately in the same year of contribution. If a contributor will be at a lower tax bracket upon retirement, then the contributions will be taxed at a lower bracket upon withdrawal. This can lead to substantial savings in taxes. A traditional Ira is a good choice in case one will retire on a lower tax bracket than he is now; he pays higher taxes now and pays lower taxes when it comes to withdraw their savings. (See Benefits Of Traditional Ira)

Some of the disadvantages of the traditional Ira include penalties applied for early withdrawals. (See Traditional Ira Early Withdrawal) Contributors have to wait until the age of 70 ½ to withdraw their contributions. If they do not then half of these contributions will be confiscated by the Internal Revenue Service. The opposite of a traditional Ira, the ROTH Ira does not have any penalties on withdrawals but the contributor is taxed as soon as he sets money aside. A traditional Ira requires certain eligibility requirements that locks out certain contributors which include the presence of employer sponsored plans and level of income. Also any withdrawals from the account is taxed as gross income meaning any profits form stocks can be lost this way.

Another disadvantage of the traditional Ira is the 10% penalty for early withdrawal from age 591/2 . This penalty can be waived in some cases including first time home purchase, higher education expenses, medical expenses and payments to IRS among others. Otherwise one can only move money from an Ira by roll over or transfer but only for a limited period 60 days maximum. At the end of the 60 days the contributor has to rollover the money back into the account. This is the only way to keep the money from being taxed.

Why Choose A Roth Ira?

A traditional Ira also has contributions limits based on age, income, presence of employer plan and joint husband-wife contributions, which the Roth Ira does not have. The Roth Ira can allow those with extra income to increase their savings without the constraints of the traditional Ira. Any investments and earnings made within a Roth Ira are not taxed while in a traditional Ira they are taxed. Roth Ira is also good if one will retire on a higher tax bracket meaning they get to pay the lower taxes now and avoid the high taxes once they start cashing out their savings. A spouse is allowed to combine a partner's Roth Ira to their own if they inherit upon death. A Roth Ira is a good choice for persons with considerable income to save.

Limits of early withdrawals are a disadvantage, incurring taxes and 10% penalty fees. Contributions to a Roth Ira are also not tax deductible. It is also possible to miss out altogether on the tax savings if one does not live to retirement age.

If you are in your fifties and think that you have not contributed enough in your Ira then you can always make catch-up contributions so you can save enough for retirement.