It’s important to sock money away for retirement so you have enough income to cover your expenses. Without savings, you might struggle to pay your bills as a senior.
Now when it comes to finding a home for your savings, you have choices. There are IRA and 401(k)s, each of which comes in the traditional and Roth variety.
Different plans have different benefits. Employer-sponsored 401(k)s beat out IRAs in the fact that they tend to come with company matching dollars and also offer much higher annual contribution limits. Meanwhile, IRAs have the advantage of letting savers invest their money in individual stocks, whereas 401(k) plans will typically limit you to funds only.
Then there’s the traditional account versus Roth debate. Traditional IRAs and 401(k)s give you an immediate tax break on your contributions. With a Roth, your tax break comes in the form of withdrawals the IRS doesn’t get a piece of during retirement. Plus, investment gains are tax-free when you save in a Roth.
While any retirement plan you choose could end up working out quite well for you, it does pay to consider putting your money into a Roth IRA. That’s because Roth IRAs ultimately give you the most flexibility with your money.
Taking RMDs off the table
The money you have in a tax-advantaged retirement plan generally can’t just sit there forever. Rather, once you turn 72, you’re required to start removing a portion of your savings balance every year.
It’s a rule known as required minimum distributions, or RMDs, and they apply to every tax-advantaged retirement plan except for Roth IRAs. The amount of your RMD can change annually based on your account balance and life expectancy. But either way, most retirement plans effectively force you to spend down your savings in your lifetime, and on a schedule that may not work for you. And so if you’d rather have more say as to when you take withdrawals from your savings, a Roth IRA is your best bet.
It especially pays to put your money into a Roth IRA if your goal is to leave some of your savings behind to your heirs. And if you expect to be in a higher tax bracket in retirement than you’re in right now, then a Roth IRA absolutely makes sense. (Incidentally, we don’t know how tax rates will evolve over time, so even if you think you’ll land in a lower tax bracket when you’re older, things may not work out that way.)
Are you eligible for a Roth IRA?
The one drawback of Roth IRAs is that higher earners can’t contribute to one directly. This year, Roth IRA contributions are off the table if you’re single with a modified adjusted gross income of $144,000 or more. If you’re married filing a joint tax return, that limit increases to $214,000.
If you’re not able to fund a Roth IRA directly, worry not. You can still put money into a traditional IRA and convert it over to a Roth. You’ll pay taxes on the money you move over, but you’ll then get the option to withdraw that money when you please during retirement — or not.
