Traditional IRA or Roth IRA?
Posted by admin | Filed under Features
Are you putting away enough money, or the maximum allowed by law into your 401(k) plan at work? If you are, and hopefully you are, and hopefully you have more money to set aside, then one investment vehicle you should consider is a Roth IRA. Most people by now know that the Roth IRA is the better alternative than the traditional IRA, but for the sake of those that don’t, here’s a quick rundown.If you know then you may want to skip the next paragraph.
The major difference in the accounts is how the monies are taxed. The traditional IRA’s are taxed when you withdraw the funds, therefore when you are contributing to the traditional IRA during the accumulation phase you are being rewarded with tax deductions. The Roth IRA is the opposite, your contributions are not tax deductible, but you don’t pay taxes on the accumulated wealth. The Roth IRA’s are much more advantageous, lets see why. The only way a traditional IRA’s makes sense is if you expect to have a small amount, and expect to pay little or no taxes, and feel that taxes will remain the same or be lower.
The traditional IRA is based on: 1. That you’ll be earning less in retirement. 2. Taxes will be lower at time of retirement. Let’s illustrate this with a little story about Rick and Jane. All thing being equal, Rick decides to invest $3000 a year into a traditional IRA for 40 years. His tax bracket is 30 percent so that means that he saves about $900 a year on taxes. Not bad you say, that’s $36,000 saved on taxes over the 40 years Rick saves for his retirement. Hopefully Rick did a good job with his investment choices and the market did its job and Rick retires still in the same 30% bracket. Rick has amassed $600,000 at retirement (he didn’t do so well), and now it’s time for withdrawal and he must withdraw 10% yearly or $60,000 a year from the IRA. His bracket is 30%, so he would pay $18,000 in taxes in the first year alone on his accumulated interest, by year all the savings in taxes is over, and Uncle Sam really starts taxing you now.
If you didn’t capture the essence, please go back and reread it, but don’t take my word for it, speak to a financial advisor of some sort, who can give more information on the topic.
