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Differences between a Roth IRA and an IRA
With the prospects of Social Security looking dimmer every year, saving for retirement on your own is the necessary way to go. The first place to look is through your employer, because employers will frequently match a certain percentage of what the employee contributes. The next best retirement investment avenue (in my opinion) is an IRA or Roth IRA. But what is the difference? Why would you want to invest in one rather than the other?
IRA is an abbreviation for Individual Retirement Account. An IRA and a Roth IRA do share some similarities - they both are typically investments in mutual funds, stocks and bonds through a broker of some sort and they are both retirement savings accounts. But the differences are more important.
The major difference between an IRA and a Roth IRA are the tax issues. An IRA is funded with tax deductible money (either taken from your paycheck before taxes are taken out or as a deduction on your tax return. When you put money into a Roth IRA it is after you have already paid taxes on it. Because of the way you pay into these retirement accounts, they are taxed differently upon withdrawal.
When you withdraw money at retirement from a traditional IRA, you pay taxes on all the earnings that have accumulated over the years. With a Roth IRA, because you paid taxes on the money before you invested it, you can withdraw the money tax free at retirement (if all the rules and regulations are followed). The potential tax savings of a Roth IRA over a traditional IRA are huge. Withdrawals begin at age 59 & 1/2 for an IRA, with mandatory withdrawals by the age of 70 & 1/2. For a Roth IRA there is no mandatory withdrawal age.
The restrictions for investing in a Roth IRA are stricter than a traditional IRA. An IRA is open to anyone that earned an income or the spouse of someone who earned an income. A Roth IRA is available for single filers that make up to $95,000 a year and married filers making up to $150,000 a year. On the other hand, there is a 10% penalty plus taxes on early withdrawals from an IRA, whereas there is no penalty for an early withdrawal of principal only from a Roth IRA.
So which retirement account should you choose? We have one of each, starting each for different reasons. Take a look at the differences between an IRA and a Roth IRA to help you decide which investment will work best for you.