You know you should save for retirement. Fewer and fewer employers offer pension plans these days. With the current economic climate, some are even beginning to phase out matching funds in 401(k) and other retirement accounts.
Many financial experts hold Individual Retirement Accounts (IRAs) as the gold standard for retirement savings, particularly for the self-employed or those whose companies do not offer other plans.
The IRAs allow individuals to make up to a certain amount a year in contributions to both Traditional and Roth IRAs. That limit expands for each once a person reached 50 years or older.
Traditional IRAs were established in 1974. Roth IRAs, named after its sponsor Sen. William Roth, were introduced in 1997. Each were introduced as alternatives to standard pension and retirement funds, but they have some important differences.
Traditional IRAs allow individuals to add money to a retirement account without paying tax on it. By not being taxed until withdrawal, the funds are able to grow faster, often outpacing the taxation rate.
Contributions to traditional IRAs are also tax deductible for the year they are made. This lowers a person’s adjusted growth income for the year and in some cases, could help them qualify for additional tax incentives such as child tax credits or student loan interest deductions.
These accounts function much like a personalized pension account, allowing for extensive tax breaks, but restricting access to funds. Required minimum distributions begin at age 70 ½. Distributions are calculated based on age and size of account.
Individuals contributing to a Roth IRA are not eligible for the same tax deductions on their contributions, which are made with after-tax funds. However, when withdrawals are made while in retirement, they are mainly tax-free.
One caveat is that Roth IRAs come with income limitations. For example, a single taxpayer in 2020 must have a modified adjusted gross income less than $139,000 (married couples must be under $206,000). That being said, Roth IRAs do not carry required minimum distributions at any point in a person’s life. In fact, because they behave more like regular investments, this makes them ideal wealth-transfer vehicles.
Several factors come into play on which option makes more sense for an investor, including forecasting whether one’s annual income and tax bracket will rise or fall once they are in retirement.
Need help getting started? Take the Standard Bank One-Minute IRA Test. Or one of our retirement specialists can help you decide whether a Traditional IRA, a Roth IRA or a combination of both with other funds make the most sense for your retirement plans. Contact one of our retirement savings specialists at 412-856-0352 during regular business hours.