What Is the Best Way to Use Roth IRAs to Save for Retirement?

retirement

As young investors, saving for retirement is one of the best ways to achieve financial freedom down the road. One way to save for retirement is through a Roth IRA. Roth IRAs are retirement savings vehicles in which your contributions grow tax-free. They provide various benefits, especially for low- to middle-class investors.  

Here’s what to know about Roth IRAs and using them to save for retirement. 

What Is a Roth IRA?  

A Roth IRA is an individual retirement account where you can grow your money tax-free. You fund a Roth IRA with after-tax dollars. This means the money you put into your account has already had taxes paid on it.  

Moreover, withdrawals are also tax-free. This means that every penny you invest goes straight to your pocket. Roth IRA funds are very flexible, and you can invest in any security—including mutual funds, stocks, bonds, and EFTs, cryptos and precious metals. The current notable exceptions are collectibles and life insurance.  

You must also be aware that a Roth IRA is different from a savings account. It’s still an investment portfolio, so it comes with various risks, such as losing the money you put into it.  However, you can also open a ROTH IRA at a bank and buy a no risk CD or money market investment.  

How Does a Roth IRA Work? 

Roth IRAs work by letting you deposit some of your post tax, earned income into the account. This way, you allow your funds to grow and withdraw them tax-free. Roth IRAs can be funded with spousal IRA contributions, rollover contributions, regular contributions, or conversions.  

If you want to make regular contributions to your Roth IRA, they should be in cash. You cannot contribute any form of property or securities. Contribution limits are the same for Roth and traditional IRAs-up to $6,000 per year if you are under 50, and up to $7,000 per year if you are 50 or older. These limits are set by the International Revenue Service. The IRS adjusts these limits periodically, so the limits are different depending on the tax year. 

A Roth IRA has fewer restrictions than other retirement plan accounts. You can maintain your Roth IRA indefinitely, and there are no required minimum distributions. 

What Are the Qualifications for a Roth IRA? 

Anyone can contribute to traditional IRAs. But with Roth IRAs, there are a few different qualifications you have to meet to be able to contribute. For instance, you must earn a regular income to qualify for a Roth IRA. Moreover, you must be aware that income limits determine how much you can contribute. The income limits are based on your adjusted gross income and tax filing status.  

What Are the Advantages of a Roth IRA? 

Roth IRAs have various benefits as a retirement savings vehicle. These advantages include: 

– Earnings are tax-free, so you don’t need to worry about reaching a higher marginal tax bracket. 

– Penalty and tax-free withdrawal of up to $10,000 when you purchase your first home. 

– You can still contribute to a solo 401(k) even when you set up a Roth IRA. 

– Flexible contribution timing.  

– Tax-free withdrawals when you turn 59 and a half years old and have been making contributions for more than five years.  

– No minimum distributions required. 

– Contributions can be made at any age. 

What Are the Disadvantages of a Roth IRA? 

Like any retirement account plan, Roth IRAs come with disadvantages you should be aware of. Keep these in mind before committing to opening a Roth IRA of your own. These disadvantages include: 

– Contributions are not tax-deductible. 

– Contribution limits apply, depending on your modified adjusted gross income (MAGI) and filing status. 

– You cannot set up Roth IRAs for your employees. 

– There are penalties for withdrawals that don’t meet the requirements set by the IRS. 

– Rollovers from a traditional IRA to a ROTH IRA require what is known as a backdoor conversion that requires a tax payment. 

What Are the Rules on Roth IRA Withdrawals? 

Roth IRA withdrawal contributions are possible anytime as long as you follow the legal guidelines. These rules prevent you from paying extra taxes or penalties. If you don’t follow the rules set by the IRS, you may need to pay extra fees. There are no additional federal taxes for withdrawing the growth on your contributions, provided you are age 59 and a half or older and have had a Roth IRA for more than five years. 

The good news is that you can withdraw your contributions to a ROTH at any time, and at any age, without penalty or taxes. This gives you much more flexibility that a traditional IRA in which any withdrawals taken before age 59 ½ will face a 10% early withdrawal penalty tax. 

Unqualified withdrawals are subjected to an extra 10 percent distribution penalty or income tax. But there are exceptions, such as adoption or childbirth expenses, medical insurance if you are unemployed, qualified expenses associated with a disability, and qualified expenses for higher education. 

How Do I Set up a Roth IRA? 

Roth IRAs can be established with IRS-approved entities, including banks, brokerage companies, loan associations, banks, and credit unions with FDIC insurance. You can create and establish a Roth IRA anytime. However, contributions for a specific tax year should be made before the tax-filing deadline. This usually happens on April 15 of the succeeding year.  

The essential primary documents you need to establish an IRA are an IRA plan document and an adoption agreement as well as an IRA disclosure statement.  These documents explain all rules and regulations regarding Roth IRA operations. These documents are generally provided free of charge by the custodian you are opening the ROTH IRA account with.  

What’s the Bottom Line? 

Deciding on the best retirement savings plan can be confusing, especially with all the options out there. The best way to decide is to weigh each option’s pros and cons, in consultation with a professional retirement planner. Roth IRAs offer flexibility and availability regardless of age. But you should also be aware of its shortcomings and areas for improvement. Still, if you understand how these accounts work, you should be able to take advantage of all the benefits they offer.  

Published by Robert Ryerson

A financial professional with more than three decades of experience, Robert Ryerson works closely with clients in the Freehold, New Jersey, area to meet their financial planning needs. As a Certified Financial Planner (CFP) at New Century Planning, he focuses on retirement income planning, as well as estate administration, regularly assisting his clients with legacy and estate planning. He also advises them on health and disability insurance, including Medicare, Medicaid, and Medicare Supplement Plans. Mr. Ryerson’s many years helping his clients navigate the complexities of retirement planning gave him a deeper understanding of the healthcare costs that retirees face. In 2013, he drew upon this knowledge to co-author the book What You Don’t Know About Retirement Will Hurt You. Outside of his work at New Century Planning, Robert M. Ryerson is a regular fixture at workshops and seminars on retirement. He has delivered several keynote speeches on the often-confusing topic of required minimum distributions. Mr. Ryerson continues to share his financial expertise as a facilitator of online courses for Certified Public Accountants through The Society for Financial Awareness. In the early 2010s, Mr. Ryerson became concerned about the threat of identity theft after noting the many cybersecurity breaches suffered by major companies. He became a Certified Identity Theft Risk Management Specialist (CITRMS) in 2014. He has since taught identity theft recovery courses at local community colleges. Mr. Ryerson also wrote a book on the topic entitled What’s the Deal with Identity Theft: A Plain English Look at Our Fastest Growing Crime. A graduate of Rutgers University with a degree in economics, Mr. Ryerson began his career in the financial services industry as a stockbroker. He obtained his CFP designation in 1991 and began working as an independent financial planner a few years later. In addition, he is a notary public.

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