Roth individual retirement accounts allow you to pay income tax on your retirement savings upfront. This means you can take out funds later without worrying about the tax bill, provided you meet the requirements. Roth IRA owners are often allowed to take tax-free distributions in retirement and can completely avoid paying taxes on their investment growth.
Here are some of the advantages that can come from contributing to a Roth IRA:
1. Prepaid retirement tax bill.
2. Tax-free withdrawals in retirement.
3. Tax-free investment growth.
4. More flexibility for withdrawals.
5. Easier access to your money.
6. Tax-free money for heirs.
7. Saving on your own terms.
8. Later contribution deadline.
9. Roth IRA conversions.
10. Access to the saver’s credit.
1. Prepaid Retirement Tax Bill
You’ve already paid taxes on your contributions to a Roth IRA. For this reason, Roth IRAs are often especially beneficial for people in low tax brackets. “If you are just getting started in your career, you likely won’t be paying a very high income tax,” said Michael DiBacco, a certified financial planner at Sentinel Group in Wakefield, Massachusetts, in an email. Even if you jump into a higher tax bracket later or if tax rates increase, you already paid taxes on your Roth contributions and likely won’t have to again. All the money in a Roth IRA will generally be available for spending in retirement, unlike a traditional IRA where you will owe income tax on each withdrawal. “It could be far more efficient to pay today’s low tax and avoid what could be a higher tax in the future,” DiBacco said.
[READ: 10 Ways to Reduce Taxes on Your Retirement Savings.]
2. Tax-Free Withdrawals in Retirement
For a Roth IRA, distributions can be taken after age 59 1/2 from accounts at least five years old. In contrast, you will owe income tax on each withdrawal from traditional IRAs and 401(k)s. When deciding between a traditional or Roth IRA, it can be helpful to compare your current tax rate to what you expect it to be in retirement. You can also save in both accounts in the same year and hedge your bets about future tax rates.
3. Tax-Free Investment Growth
Roth IRAs can help you keep more investment growth on your retirement investments. You don’t have to pay income tax on investment gains or interest earned within your Roth IRA each year. And if you wait until after age 59 1/2 to take distributions and your account is at least five years old, you won’t have to pay tax on your Roth IRA investment earnings. This differs significantly from a traditional IRA, where you owe income tax on each withdrawal, including investment earnings.
4. More Flexibility for Withdrawals
If you have a traditional 401(k) or IRA, you must start taking out funds after age 73. These required minimum distributions take place every year. When withdrawing from traditional retirement accounts, you must also pay the resulting tax bill. If you miss a distribution, you could face a penalty of 10% or 25%. Roth IRAs don’t have any withdrawal requirements during the lifetime of the original account owner.
[Related:Retirement Account Withdrawal Strategies]
5. Easier Access to Your Money
Traditional IRA withdrawals before age 59 1/2 could result in a 10% early withdrawal penalty in addition to income tax on the amount withdrawn. Roth IRA early withdrawals may trigger a 10% penalty and income tax only on the portion of the withdrawal that comes from investment earnings.
However, you can withdraw funds you contributed to the Roth IRA if the account is at least five years old. “Your contributions or principal can always be withdrawn penalty and tax-free regardless of age,” said Matt Hedley, certified financial planner and director of retirement services at OneDigital in Richmond, Virginia, in an email.
As with traditional IRAs, penalty-free early withdrawals are allowed for a variety of reasons, including college costs, first-time homeownership expenses, health insurance premiums after job loss and significant unreimbursed medical costs.
6. Tax-Free Money for Heirs
If you leave a large traditional retirement account balance to a beneficiary, you may also pass on a large tax bill. Beneficiaries must pay the taxes on money you leave to them in a traditional 401(k) or IRA. However, your children and grandchildren can take tax-free withdrawals from the Roth IRA they inherit from you. While heirs will need to take withdrawals from a Roth IRA, the distributions are less likely to trigger a complicated tax situation for your beneficiaries.
7. Saving on Your Own Terms
The money in your traditional 401(k) or IRA doesn’t completely belong to you because you still owe taxes on it. But you have already paid taxes on all the money in your Roth IRA using money outside of your retirement accounts, which allows you to shelter as much money as possible from taxes within the account. “If you don’t have access to a workplace plan but have earned income, you can save in a Roth IRA every year,” DiBacco said.
You might also continue saving longer if you work past retirement age. “You can contribute at any age as long as you have a qualifying earned income,” said John W. Manzella, an investment advisor representative at Oxford Wealth Management in Oxford, Michigan, in an email. This may be helpful if you work in the gig economy or run a business and want to delay retirement.
8. Later Contribution Deadline
Retirement savers can contribute up to $7,000 to a Roth IRA in 2024. Workers age 50 and older can make an additional $1,000 catch-up contribution for a total Roth IRA contribution of $8,000. While 401(k) contributions are typically due by the end of the calendar year, you can make Roth IRA contributions up until the tax filing deadline in April. When you contribute to a Roth IRA between January and April, you can elect to apply the deposit to the current calendar year or previous tax year.
[READ: What Is the Roth IRA 5-Year Rule?]
9. Roth IRA Conversions
There are income limits for Roth IRA contributions. Those who earn more than $161,000 as an individual or $240,000 as a married couple can’t directly contribute to a Roth IRA in 2024, and eligibility is phased out for workers earning more than $146,000 as individuals and $230,000 as couples. However, almost anyone can convert traditional IRA assets to a Roth if they are willing to pay income tax on the amount converted. This maneuver is particularly beneficial if you make the conversion and pay the resulting tax bill in a year when you are in a particularly low tax bracket. You can also convert a small amount each year to avoid an abnormally large tax bill.
10. Access to the Saver’s Credit
While Roth IRA contributions won’t get you a tax deduction, they can qualify you for the saver’s credit. If your income is below $38,250 for individuals, $57,375 for heads of household and $76,500 for couples in 2024 and you contribute to a Roth IRA, you may be eligible for a tax credit. The saver’s credit is worth between 10% and 50% of the amount contributed to a retirement account up to $2,000 for individuals and $4,000 for couples. The biggest credits go to retirement savers with the lowest incomes.
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Update 01/31/24: This story was published at an earlier date and has been updated with new information.
