Roth IRAs and traditional IRAs are similar in that they are both individual retirement accounts that provide tax benefits. You won’t pay income tax on qualified Roth IRA withdrawals because you pay them when you make contributions. You’ll pay taxes on traditional IRA withdrawals, but they’ll be based on your current tax rate, which will likely be less when you retire.
If you’ve started focusing on your retirement goals and want to make the most of your retirement accounts, you should know the important differences between a Roth IRA and a traditional IRA. Review the chart and keep reading to find out things you should consider when you’re deciding on your retirement plan, including important IRA withdrawal rules.
|Roth IRA vs. Traditional IRA: What’s Best for Me?|
|Roth IRA||Traditional IRA|
|Tax Benefits||Tax-deductible contributions if qualified||No tax-deductible contributions|
|Contribution Limits||$5,500, or $6,500 if over 50; or up to your yearly taxable compensation||$5,500 or $6,500 if over 50; or up to your yearly taxable compensation|
|Age Requirements||Contribute at any age||Cannot contribute after 70.5|
|Withdrawal Taxes||None if qualified||Taxed|
|Early Withdrawal Penalties||10% if under age 50.5 unless qualified for exception||10% if under age 50.5 unless qualified for exception|
|Required Minimum Distributions||April 1 following year you turn 70.5; December 31 after that||None if you are original owner|
What Is a Roth IRA?
A Roth IRA is a special kind of retirement account that you use post-tax income to fund, which means you can’t deduct those contributions on your taxes. It also means that when you take withdrawals from your Roth IRA you won’t pay taxes on that money — provided you follow the withdrawal rules — because you’ve already paid them up front.
What Is a Traditional IRA?
A traditional IRA is a tax-deferred retirement savings account that you fund with pre-tax money, which allows those funds to grow tax-free. You pay taxes on your traditional IRA money only when you make withdrawals in retirement. Because you’re deferring taxes, your capital gains, dividends and interest payment compound each year tax-free, which enables your funds to grow more quickly in a traditional IRA than they would in a taxable account.
How Are Roth IRAs and Traditional IRAs Similar?
Roth IRAs and traditional IRAs share some similar rules. Here’s what they have in common:
- You can make withdrawals on your earnings at any age but you’ll likely pay a penalty if you do so before you reach the age of 59.5.
- Traditional and Roth IRA contribution limits are the same for 2017: $5,500, or catch-up contributions of $6,500 if you’re 50 years or older. Roth IRA and traditional IRA contribution limits stipulate that you can never contribute more than your yearly taxable compensation.
- Each plan allows for penalty-free withdrawals in certain situations, such as disability or the participant’s death.
- The deadline to make contributions to both accounts is the same as your tax filing deadline.
How Are Roth IRAs and Traditional IRAs Different?
Roth IRAs and traditional IRAs have some key differences that make deciding between accounts a little more complex. Here’s a closer look at these distinctions:
Roth IRAs and traditional IRAs have some crucial tax differences that make deciding between them a bit complex. If you opt for a Roth IRA, you pay your taxes as you contribute at your current tax rate and there are no age restrictions for contributions.
If you choose a traditional IRA, you defer paying taxes until you make withdrawals, which means you’ll pay taxes based on your tax rate at the time of withdrawal. You can keep contributing until you reach 70.5 and there are no income restrictions to contribute, although you can’t put more than your yearly taxable income in the account. You might, however, face restrictions on how much you can deduct on your taxes when you make withdrawals.
You can withdraw your Roth IRA earnings without penalty or taxes once you reach 59.5 years of age and the account has been open for at least five years. However, you can withdraw your contributions from a Roth IRA at any time penalty-free, which differs from traditional IRA withdrawal rules.
You can keep contributing to a Traditional IRA until you reach 70.5 but at that point you’ll be required to start taking minimum distributions — and paying tax on them.
IRA Income Limits
You can contribute up to a Roth IRA’s limit — $5,500 or $6,500 if you’re over 50 –as a single filer if you do not make more than $118,000, or $186,000 if you are married and filing jointly. If you make more than these figures the amount you can contribute is reduced, and you cannot contribute at all if you are a single filer and make more $133,000, or married and filing jointly and make more than $196,000.
Although you don’t have to worry about income restrictions when you contribute to a traditional IRA, there might be some restrictions on how much you can deduct on your taxes when you make withdrawals.
You can always convert a traditional IRA to a Roth IRA if you change your mind. When you transfer funds to another retirement account, some banks will give you a 60-day window during which you can make the transfer without any penalty.
You can also roll over your traditional IRA into a qualified retirement plan at work, like a 401k. You can only roll over a Roth IRA, however, to another Roth IRA at work.
IRA Age Restrictions
Like traditional IRAs, Roth IRA maximum contributions vary for those under 50 versus those over 50 years of age, but there’s no age limit to making contributions to your Roth IRA. You can’t contribute to a traditional IRA, however, after your turn 70.5.
IRA Required Minimum Distributions
You’re required to take RMDs from a traditional IRA when you turn 70.5. You’re never required to take RMDs from a Roth IRA while you’re alive.
Find Out: 6 Roth IRA Rules You Need to Know
Which Is Best for You?
Your income tax rate during retirement might be significantly lower than during your working years because you’ll likely be working part-time or not at all. If you know you’ll be working full-time through retirement and maintaining a high income, it makes more sense to contribute to a Roth IRA account.
If you don’t expect to be earning money during retirement — or plan on working only part-time — you will probably be in a lower income bracket, which means you can maximize your retirement savings in a traditional IRA because you’ll pay less income tax on your withdrawals.
Run some side-by-side calculations to determine what will be the best use of your hard-earned dollars for every year you plan to contribute to your retirement account so you can make the most informed decision with your investments.
Sabah Karimi contributed to the reporting for this article.