Tax and Money Tip of the Week:
The Many Advantages of Roth
IRAs | August 21, 2013 | No. 150
The most flexible savings retirement account of all….
As tax rates increase, the Roth individual retirement account keeps looking better and better. The key feature of a Roth IRA is that all money invested into one of these accounts grows tax-free and qualified distributions are also tax-free! This Tax Tip will look at eight ways to maximize the flexibility of Roth IRA accounts.
- Easy access to your money at any age. You are always allowed to withdraw your investment in a Roth at any age. Example: you are age 40 and put $1,000 into a Roth account on January 1. If that account grows to $1,100 by June 1, you can take out your original $1,000 investment tax-free. That is why it is important to maintain your cost basis in a Roth account over the many years you may invest into one.
- You do not receive a tax deduction when you contribute to a Roth IRA, but as we said earlier, they do provide tax-free retirement income. To get this tax break you must generally hold the Roth IRA account for at least five years and be older than 59.5 years old.
- Tax-free wealth for your heirs. If you don’t plan to spend all of your retirement savings, Roth IRAs are a terrific way to pass tax-free wealth on to your children or grandchildren. Your heirs will pay taxes at some point on any inherited traditional IRAs. They can inherit your Roth IRAs tax-free and potentially enjoy tax-free growth for a generation or more.
- Roth’s allow you opportunity to increase wealth at older ages. Traditional IRAs require that you start taking distributions at age 70.5. Roth’s do not require distributions, therefore allowing you to ability to keep money in the account when you may not need the money. In addition, if you receive earned income after age 70.5 you can still make Roth contributions whereas you cannot make traditional IRA contributions.
- Potential savings on future Social Security taxes and Medicare premiums. If your income is above $25,000 single, or $32,000 married, than some portion of your Social Security benefits will be included in your taxable income. Traditional IRA distributions go into this calculation. Distributions from a Roth IRA do not get included in the calculation of taxable Social Security income. Adjustments to Medicare premiums will occur if income is over $85,000 singles, and $170,000 for married couples. Once again, Roth distributions will not be added to this equation of increased Medicare premiums.
- If your company offers a Roth 401(k) plan, you can contribute as much as $17,500 this year or $23,000 if age 50 or above. (If you do not have a company sponsored Roth 401(k), the maximum contribution is $5,500 or $6,500 if over age 50.)
- You might want to consider rolling over a modest amount of traditional IRA funds into a Roth IRA during your working years. You will pay taxes on that rollover, but if your tax rate in retirement years will be about the same as your working years it may help you reduce the depletion of “tax-favored” savings in retirement.
- Roth’s make a great gift for kids. Let’s say you have a 14 year old child or grandchild that has a part-time job that pays them $1,200. If you make a $1,200 Roth contribution for them that investment would grow to almost $61,000 over the next 50 years (assuming an 8% annual return on the investment).
Questions or Comments?
Mark Vitek, CPA/PFS, CFP®
…until next week.