What Is the Difference Between a Roth and a Traditional IRA?
Both traditional individual retirement arrangements, commonly referred to as IRAs and Roth IRAs are good retirement savings options. Each has key differences to consider when determining which is the best option for you.1
Differences between traditional and Roth IRAs include tax benefits when in both the contribution and withdrawal phases, eligibility criteria, forced disbursements, and more. Below is an overview comparing and contrasting traditional and Roth IRAs:
Income Limits, Roth IRA
The IRS has rules in place for IRAs, so determine if you are even eligible for a Roth by looking at your current income. Limits are based on your modified adjusted gross income (MAGI). If you make less than $125,000 or have a household combined income less than $198,000, you can contribute up to $6,000 annually ($7,000 if 50 or older).2 See a full chart on contribution limits and where they cut off.
If your income is too high for you to contribute to a Roth IRA, don't worry. There's something called a "backdoor" Roth IRA that allows you to access this savings vehicle. Here's how:
There are no restrictions to converting a traditional IRA to a Roth. High-income earners can move contributions to a traditional IRA that did not qualify for the pre-tax deduction. If you only have nondeductible IRA contributions, converting is very simple and without tax consequences.
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Income Limits, Traditional IRA
Your income level determines the tax deduction eligibility of traditional IRA contributions. However, income limits only apply if you or your spouse has a retirement plan through work. For single taxpayers, the ability to deduct upfront taxes ends if your income is $76,000 or more, and $125,000 or more for married filing joint. A full chart can be found at the links below for those covered by a workplace retirement plan, as well as those not covered:
As a general rule, Roth IRAs are the best option for most savers. It is hard to go wrong with a Roth IRA unless you need a tax break now. Here are a few reasons why:
- Early withdrawals are easier with a Roth IRA
While early withdrawals from any retirement fund are discouraged, if you find yourself needing to dip in, the Roth allows access to your contributions — not earnings — at any time without a tax or early withdrawal penalty. Traditional IRAs are not as flexible. Expect a 10% early withdrawal penalty, and any funds you withdraw will be considered income and taxed at your current rate.
- A Roth has fewer rules for retirees.
Whether you want to or not, traditional IRAs require you to start taking minimum distributions by age 72. Unless you inherited a Roth, there is no required minimum distribution at any age. You can let your money keep growing in the account for as long as you wish.
- A Roth IRA offers more after-tax money.
In a traditional IRA, the tax benefit occurs each year you contribute. If you don’t take those tax savings and reinvest them into the fund, they are likely to be spent elsewhere. Unless you need the upfront tax break or are extremely vigilant with your savings, you'll end up with more money when you opt for the tax benefit at the end with a Roth IRA.
- Tax diversification.
If you are participating in a workplace 401(k), directing a portion of your retirement investment into a Roth gives you tax diversification with both pre- and post-tax funds and options for handling your tax burden in retirement.
Before you decide for yourself, weigh the pros and cons of each, and consult your tax advisor. A traditional IRA's primary advantage is the upfront tax break, which may be a great incentive for someone who might not otherwise save for retirement. Suppose you don't need that immediate tax break. In that case, it's hard to ignore the benefits of the Roth: Tax-free withdrawals in retirement and contributions can be withdrawn at any time without penalty, should you need them.
Texell offers both Roth and Traditional IRA accounts, as well as related Term Share Certificates. Learn more about our IRAs, and access our calculators to see firsthand the savings you could realize with these retirement savings vehicles.