There are many options for investing for retirement, with Roth IRAs becoming an increasingly popular investment vehicle. With a Roth IRA, the federal government usually does not mandate income taxes on withdrawals on the account, as long as you meet certain requirements at the time of the withdrawals.
Roth IRAs (Individual Retirement Accounts) were established by the Taxpayer Relief Act of 1997, and are accounts that can contain a variety of investments from stocks and bonds, to notes, CDs and real estate.
You may also have a Roth IRA that is an individual retirement annuity purchased from a life insurance company. The IRS designates certain filing and eligibility requirements, as is common in all IRAs. The tax structure of a Roth IRA is its greatest appeal, as well as the flexibility afforded by this structure.
In addition, fewer restrictions are placed on investments in Roth IRAs, which accounts for a large part of their popularity. The investment options available to Roth IRA investors depend on the brokerage where the plan was established. Look for a broker who’s plan offers the most flexibility with the lowest fees. Discount broker ETrade and others such as Zecco offer many investment options as well a affordable commissions.
What Is A Roth IRA? Traditional IRA Versus Roth IRA
Unlike a traditional IRA, Roth IRA contributions are not tax deductible, they do however offer tax-free withdrawals after specific conditions have been met. You typically must be above the age of 59½, and the funds must pass the “seasoning” period (presently five years).
In a typical IRA, withdrawals are subject to ordinary income taxes, as well as additional fees and tax penalties for early withdrawals. The capital gains on securities held in a traditional IRA for a minimum of one year are taxed upon withdrawal at the current long-term capital gains rate of 15%.
This is an important consideration when deciding between traditional IRAs and Roth IRAs, as your future tax status, as well as time frame for investing will play a major factor in your decision.
In a Roth IRA that has been rolled-over from another retirement plan, the total amount of the converted funds can be withdrawn penalty and tax-free as long as the “seasoning” period has passed.
Roth IRAs For Estate Planning And Heirs
Roth IRAs are excellent investments for heirs, as they do not require age-based distributions like traditional tax-advantaged retirement plans, and can be passed on to family and loved ones if you were to pass away. The beneficiaries of the funds would be subject to the minimum rules of distribution.
These investment vehicles make sound financial endowments for your beneficiaries, as they provide tax free income for your heirs.
As tax dollars have already been subtracted from the funds in your Roth IRA, your estate taxes could be reduced. For estate purposes, a Roth IRA is valued at the pre-tax level.
Drawbacks To A Roth IRA
While a Roth IRA has its distinct advantages, they are not right in every circumstance. If you are in a higher earnings bracket, an therefore in a higher income-tax bracket, would stand to benefit from the lower 15% capital gains tax in a traditional IRA versus the ordinary tax rate realized in a Roth IRA.
Traditional IRAs also offer immediate tax benefits in the form of tax deductions (provided you fall within certain income limits). By investing in a Roth IRA as opposed to a traditional IRA, you are effectively delaying your tax benefits until the time of withdrawal.
The choice of retirement funds is an important one, and should be carefully weighed against investment objectives, available capital, and time frame for investing.