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Is a Roth your best choice for an IRA?

Is a Roth your best choice for an IRA?

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If you expect to be in a higher tax bracket in the future, the answer may be yes.

  • Roth and traditional retirement accounts are taxed differently.
  • Which account you choose should be based on your current and future tax rates.
  • Choosing the right account can help you avoid paying excess taxes.

When you’re saving for retirement, you typically have a choice between traditional and Roth retirement accounts, including IRAs and 401(k)s. But how do you choose which account to open?

The tax treatment of Roth and traditional accounts can be considerably different. That’s because the way you put money into these accounts and how you take it out later is different:

Traditional retirement accounts are funded with money on a pretax basis and reduces your taxable income which essentially gives you a tax break for the same year. However when it’s time to start taking money out of those accounts, you’re going to have to pay taxes on every dollar you withdraw at an ordinary income rate, these dollars are added to any other ordinary income you may have at the time.

Roth accounts, on the other hand, are funded with money that you’ve already paid taxes on. Contributing to a Roth doesn’t reduce your taxes today, but distributions that are taken after age 59 ½ are tax-free if you have had the account for five years. Having access to tax free money or income during retirement can be a very strong tool when it comes to managing tax liabilities during retirement.

If you think your tax rate in the future will be higher, paying taxes now with Roth contributions makes sense. If your tax rate is likely to be lower in retirement, you can use traditional contributions to defer taxes instead. Federal tax rates are scheduled to revert to pre-2018 levels after 2025, which probably will make Roth contributions more attractive today.

Here are a few situations where a Roth may make the most sense:

1. You are currently in a lower tax bracket, but you expect that to change. 

2. You are close to retirement and are concerned about RMDs ( required minimum distributions ). 

3. You are an aggressive saver. 

Feel free to contact us today if you have any questions about Traditional or Roth contributions and how these contributions can help with your long term financial planning.

John Pharr, CPA 850-435-8844