IS A TRADITIONAL IRA BETTER THAN A ROTH IRA
One of the most common questions clients ask is, “What’s better, a traditional IRA or a Roth IRA?” While there are pros and cons to both types of accounts, the one most advantageous to you will depend on your financial situation and future goals.
The Basics
| Traditional IRA | Roth IRA | |
| Contribution Type | Contributions are made on a pre-tax basis, which reduces the taxpayer’s taxable income in the year contributions are made. | Contributions are made on an after-tax basis, which provides no immediate tax benefit. |
| Eligibility | Anyone of any age with earned income can contribute. | Higher-income earners are phased out from contributing. |
| Tax-advantaged Growth | Tax-deferred growth – No federal taxes are due until distributions are taken. | Tax-free growth – No federal taxes are due as long as the account has been open for five years and the account holder has reached age 59 ½. |
| Distributions | Distributions are taxed as ordinary income. | Contributions can be withdrawn at any time with no taxes or penalties. Qualified withdrawals (those made after age 59 ½ and after the account has been open for at least five years) are tax-free. |
| Early Withdrawal Penalties | Distributions before age 59 ½ may be subject to a 10% early withdrawal penalty and are taxed as ordinary income. | Distributions of money contributed can be taken tax-free. Investment growth may be subject to a 10% early withdrawal penalty if taken before age 59 ½ or if the account has been open for less than five years. |
| Required Minimum Distributions (RMDs) | RMDs must begin once the investor reaches age 72. | No RMDs are required for the account owner’s lifetime. (Account beneficiaries of inherited Roth IRAs may be subject to RMDs.) |
| Annual Contribution Limits | $6,000 for those under age 50, with an additional $1,000 catch-up contribution permitted for those 50+. |
What type of IRA is ultimately better?
Modified Adjusted Gross Income (MAGI): In 2022, if your MAGI is greater than $144,000 as a single filer or $214,000 married filing jointly, you are not eligible to contribute to a Roth IRA. Contributions are gradually phased out for those with MAGI between $129,000 and $144,000 for single filers or $204,000 to $214,000 for married filing jointly. This means that contributions to a traditional IRA are your best and only option.
Current and Future Tax Brackets: The rule is if you expect to fall into a lower tax bracket in retirement, you may want to make pre-tax contributions to a traditional IRA to lower your current (higher) income. If you expect to fall into a higher tax bracket in retirement, contribute to a Roth IRA to enjoy tax-free retirement income.