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Roth IRA vs Traditional IRA Accounts
April 2004

If you are deciding to set aside money for retirement by opening an IRA account, you have a decision to make:

Should you open up a Roth IRA or a Traditional IRA account?

Let's review the differences between both IRA accounts so you can determine which one is right for you.

With a Roth IRA account:

  • Your contributions are not tax deductible. This is one of the major differences between a Roth and a Traditional IRA account.
  • A Roth IRA account can only be available to you if you are a single filer making less than $95,000 a year or a married couple with a combined income maximum of $150,000. If you make over these amounts, you do not qualify for a Roth IRA account and must open a Traditional IRA account.
  • All profits and contributions are completely tax free! This is THE major benefit of a Roth IRA and one of the other major differences between a Roth and a Traditional IRA. If you have a Roth IRA and you are over 59 1/2, you will not pay a dime of taxes when you withdraw your money and earnings.
  • Your principle (contributions) can be removed from your Roth IRA account without a penalty.

With a Traditional IRA account:

  • Your contributions are tax deductible. There are some restrictions to this deduction, such as whether you are eligible for a retirement plan with your employer and your income level. For example, let's say you make $40,000 in 2004 and make your IRA contribution of $3,000. You deduct the amount of your contribution from your income, so your taxable income is $37,000.
  • Earnings withdrawn from a Traditional IRA are taxed when you withraw them from your account.
  • Unlike a Roth IRA, there are no income restrictions when it comes to eligiblity.
  • Mandatory withdrawals start at age 70 1/2. With a Roth IRA, there are no mandatory withdrawals.
  • If you do want to withdraw funds before your reach age 59 1/2, you will have to pay penalties and taxes.

Now that I've listed the major differences between the two types of IRA accounts, which one should you choose?

For starters, you might be disqualified from even making a decsion if your income levels exceed the requirements to be eligible for a Roth IRA account. In that case you have to invest in a Traditional IRA. If you are still eligible for the Roth and have at least 10 years until retirement, you may be leaning to a Roth IRA.

Here is a major advantage of a Roth IRA

The ability to withdraw your contributions and 100% of all investment gains from a Roth IRA without paying a dime of taxes will probably far outweigh the relatively measly yearly income tax deductions you gain with a Traditional IRA account. If you make $40,000 a year and make a $3,000 Traditional IRA contribution, you are lowering your taxable income to $37,000. If you were in the 30% tax bracket, Instead of paying $12,000 in Federal taxes, you would pay, $11,100, a savings of $900. However, with a Roth IRA you will probably more than make up for that savings with the accumulated earnings of a Roth IRA. This difference could mean many times more than the $900 you saved when you made your initial contribution.

Below are some Roth IRA vs Traditional IRA Account calculators to help make your decison. These calculators take into account factors such as your income level, your current age, your invesment returns and more. Play with the numbers and have a little fun!

  1. myFICO Roth IRA vs Traditional IRA calculator
  2. Roth IRA vs Traditional IRA calculator

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