What is a Roth IRA?

A Roth IRA is an individual retirement account (IRA) that allows you to make tax-free withdrawals in retirement. While you do not draw any current-year tax benefits, your contributions and earnings grow tax-free which can be withdrawn tax and penalty-free once you reach 5912 years of age and if your account has been open for five years.

What Benefits Do A Roth IRA Offer?

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Early access to money

You can make early withdrawals, without penalties, from a Roth IRA, provided it is a qualified expense. Some examples of qualified expenses are disability, higher education, first-time home purchases and certain unreimbursed medical expenses.

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No age limits

You can put money in your account for as many years as you want, as long as you have qualifying earned income.

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Tax-free retirement income

Under a Roth IRA, if your account has been open for 5 years and if you are 5912 or older, you can withdraw your money without owing any federal taxes.

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No RMDs

Unlike traditional IRAs, there are no Required Minimum Distributions (RMDs) for Roth IRAs during the account owner's lifetime. Your account's beneficiaries may need to take RMDs to avoid penalties.

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No taxes for your heirs

You can pass your Roth IRA on to your beneficiaries, and their qualified withdrawals will be tax-free.

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Top Questions about Roth IRA

1. What is a Roth IRA?

A Roth IRA is an Individual Retirement Account (IRA) that allows one to make tax-free withdrawals in retirement. While one does not get any immediate tax benefits, contributions and earnings grow tax-free which can be withdrawn tax and penalty-free once one reaches 5912 years of age, and if the account has been open for five years. Incorporating a Roth IRA into an overall investment plan is beneficial, since the account offers many ways to maximize retirement savings and minimizes taxes.

2. How is a Roth IRA different from a Traditional IRA?

A Roth IRA is different from a Traditional IRA in 4 main ways:

  1. Tax Breaks: Contributions to a Roth IRA are after-tax dollars, while contributions to a Traditional IRA are mainly tax deferred till the time of eligible withdrawal, i.e., after 5912 of age.
  2. Withdrawals: Roth IRA withdrawals may be penalty and tax free once one reaches 5912 and if the account has been open for more than 5 years.
  3. Suitability: A Roth IRA is suitable for those individuals that expect to be in a higher tax bracket post 5912 years of age while a Traditional IRA may be beneficial to those that expect to be in a lower tax bracket post retirement.
  4. Mandatory Distributions: There are no mandatory distributions (a specific amount one must withdraw) for a Roth IRA, but for a traditional IRA there are mandatory distributions after age 72.
3. Can an old 401(k) be rolled over from a previous employer into a Roth IRA?

Yes, one can roll over an old 401(k) from a previous employer into a Roth IRA. It is highly advised that one contact a financial advisor to be guided through this process.

4. How does one convert a Traditional IRA to a Roth IRA?
  1. First, open a Traditional IRA account and fund it.
  2. Pay the necessary income taxes on your IRA contributions and gains.
  3. Convert the account to a Roth IRA. A new Roth IRA account will have to be opened if one does not already exist.

Consult a financial advisor on the best ways to convert a Traditional IRA to a Roth IRA. Talking to a financial advisor will help determine the advantages and disadvantages of converting Traditional IRAs into Roth IRAs based on one’s specific needs and financial goals.

5. What are the rules of a Roth IRA withdrawal?

The rules for withdrawal from a Roth IRA account are different for contributions and earnings. Contributions are the monies deposited directly into the account, while earnings are the profits that have accumulated in an account through investments. Both contributions and earnings grow tax-free within an account over time.

Withdrawal rules for contributions:

1. Penalty-free and tax-free withdrawals may be made if the account is 5 years old and the account holder is 5912 years old.

2. Contributions may be withdrawn from a Roth IRA account at any time. Contributions are made with after-tax dollars, so there are no taxes or penalties for withdrawing them.

Withdrawal rules for earnings:

3. Earnings or profits from a Roth IRA, may be withdrawn with a 10% penalty and normal federal income taxes, depending on the age of the account and account holder.

EXCEPTIONS:

4. Penalty and tax-free withdrawals may be made from a Roth IRA, after 5 years of opening a Roth IRA account and if the owner of the account is younger than 5912, through Qualified Distributions. Some examples of Qualified Distributions defined by the IRS are:

  • First time home purchases up to $10,000
  • Rolled over IRA’s (if the IRA is rolled over correctly)
  • During a divorce: Under a domestic relations order, distributions may be considered qualified
  • Qualified higher education expenses
  • Health insurance premiums, if unemployed for more than 12 consecutive weeks
  • Substantially equal payments made in a series
  • The account holder becomes disabled
  • Unreimbursed medical expenses that are over 7.5% of (AGI) adjusted gross income
  • The account owner dies
  • Birth of a child expenses/adoption expenses