Roth IRA: Does one make sense for you?

When it comes to saving for retirement, you have a variety of different investment vehicles to choose from. There is no one-size-fits-all plan and determining which account (or accounts) will best suit your needs is a crucial step in securing the future that you envision for yourself and your family.

To help you make your decision, here is what you should know about one of the most popular retirement accounts: the Roth IRA.

What is a Roth IRA?

A Roth IRA is a popular type of individual retirement account (IRA) that affords investors the unique ability to withdraw funds on a tax-free basis. Whereas traditional IRAs are funded with pre-tax dollars and then taxed upon withdrawal, Roth IRAs are funded with after-tax dollars and then allowed to grow tax-free. Paying taxes up front means that your contributions aren’t tax-deductible, but it also means that you’ll be able to keep all of what you earn when it’s time to start making withdrawals.

Contributions to Roth IRAs can only be made with taxable income earned within the same calendar year. The annual contribution limit for all IRA accounts (Roth or otherwise) is $6,000, or $7,000 for those over 50.

Who are Roth IRAs for?

Roth IRAs aren’t for everyone, and the IRS restricts who has access to their exclusive tax-shelter. To open and contribute to a Roth, you must meet a couple requirements. First, you must have earned income (“taxable compensation”) in the year that you open the account or contribute to it, just like with a traditional IRA. Second, your adjusted gross income cannot exceed a certain threshold—this year it’s $144,000 if you file individually or $214,00 if you file jointly. If you earn more than this amount, you cannot make contributions to a Roth IRA directly. Luckily, there is a workaround known as a “backdoor Roth” that enables you to get your cash into a Roth with just a couple added steps.

What are the benefits of using a Roth IRA?

The benefits of using a Roth IRA as your vehicle for retirement saving are both vast and consequential. Not only can you accelerate the growth of your nest egg by opting for a Roth, but you’re also given significantly more freedom to manage your account. Here are just a handful of the unique benefits that a Roth can provide:

Earn tax-free retirement income

If you’re looking to earn tax-free income in retirement, a Roth IRA is for you. Since you pay taxes on your contributions upfront, you aren’t responsible for paying taxes on your earnings when it comes time to make withdrawals. Tax-free withdrawals come with a couple important caveats: you must be 59 ½ or older, and it must have been at least five years since you first contributed to the account.

Retirement is all about ensuring that you receive a steady stream of income from your investments so that you can cover living expenses. Having tax-protection for your retirement account withdrawals will go a long way toward minimizing the amount you surrender in income taxes and maximizing the amount you have to live on.

Manage your investments the way you like

Those interested in taking a more active approach to managing their retirement investments should consider a Roth. Unlike employee-sponsored plans like 401(k)s, which tend to have limited investment options to choose from, Roth IRAs afford you the flexibility to invest in a wide range of asset classes. Stocks, bonds, and ETFs are still available to you, but if you want to invest in real estate, money market funds, or even cryptocurrencies–you can.

The breadth of investment options provided by Roth IRAs means that you can tailor your retirement account to fit your individual needs. If you’re searching for even more account flexibility, consider opting for a Self-Directed Roth IRA, which allows you to trade options and other assets in a more speculative manner.

Contribute when you want, how you want

The decision to contribute funds to your retirement account is significantly easier to make when you know those contributions won’t be locked up forever. One of the most appealing and exclusive benefits of using a Roth IRA is that you can withdraw funds that you’ve contributed any time you like. You cannot, however, withdraw earnings before 59 ½ without paying a hefty tax penalty.

To illustrate, let’s say that you contributed $1000 to a Roth two years ago. Over the last two years, that investment grew to $1200. You can withdraw the $1000 you contributed at any point without consequence, but the $200 that your account earned is off-limits until you reach the requisite age.

Skip required minimum distributions (RMDs)

One of the primary disadvantages of using tax-deferred accounts–such as traditional IRAs and 401(k)s–to house your retirement savings is that you’re forced to make regular withdrawals in the form of required minimum distributions (RMDs) once you reach a certain age. As prescribed by the IRS, those over the age of 72 must take distributions from their retirement accounts on an annual basis. These distributions are taxable as income.

Roth accounts do not have required minimum distributions, so you can keep your tax-free money invested for as long as you want. The freedom to deposit and withdraw funds as you choose makes Roth IRAs more attractive to investors.

Leave your retirement account to your heirs

The transfer of wealth to the next generation is top-of-mind for many investors, particularly those who don’t foresee themselves needing to live off of their retirement accounts. As long as you’ve controlled your Roth IRA for at least five years, your beneficiaries can make tax-free withdrawals from your account just like you can. If it were a tax-deferred IRA, they would be responsible for paying taxes upon withdrawal.

For this reason, Roth IRAs can be effective tools for creating generational wealth. If you don’t use up the contents of your Roth while you’re living, consider passing it on to your heirs to enjoy.

The takeaway

The potential to generate tax-free income is just one of the many benefits of using a Roth IRA for your retirement savings. Roths provide you the flexibility to align your investment strategy with your individual retirement goals, as well as the freedom to deploy your funds as you see fit. If you’re interested in opening a Roth IRA, or converting an existing account to a Roth, reach out to speak with one of our financial advisors.

The information contained herein represents the views of Elevage Partners at a specific point in time and is based on information believed to be reliable. No representation or warranty is made concerning the accuracy of any data complied herein In addition, there can be no guarantee that any projection, forecast, or opinion in these materials will be realized. Any statement non-factual in nature constitutes only current opinion which is subject to change. These materials are provided for informational purposes only and do not constitute investment advice. Any reference to a security listed herein does not constitute a recommendation to buy, sell, or hold such security. Past performance is no guarantee of future results. The historical returns of any securities and/or sectors mentioned in this commentary are not necessarily indicative of their future performance.


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