By Alex Ognenovski, J.D.
- Contributing to a Roth IRA gives you extra taxation-flexibility toward your retirement plan.
- The contributions to a Roth IRA are made on an after-tax basis, meaning you can withdraw your contributions at any time and any potential earnings can be withdrawn tax-free during retirement.
- You are not required to take distributions from a Roth IRA as you are with a traditional IRA.
- Not everyone can contribute to a Roth IRA due to IRS income limits.
- If you take a distribution of Roth IRA earnings before you reach age 59½ and before the account is five years old, the earnings may be subject to taxes and penalties.
- Money may grow tax-free; withdrawals are tax-free as well.
Your Roth IRA contributions have already been taxed (after-tax dollars) to the account. There is no tax deduction with a Roth as there can be with a traditional IRA; however, any growth or earnings from the investments in the account—and any distributions you withdraw during retirement—are free from federal taxes (and may also be free from state and local taxes too), with a few conditions.
- Leave tax-free money to heirs.
In many cases, a Roth IRA has legacy and estate planning benefits, but you must consider the pros and cons—which can be subtle and complex. Be sure to consult a JGUA Advisor before attempting to use Roth IRAs as part of an estate plan. While Required Minimum Distributions (RMDs) are required for inherited Roth IRAs (as they are for inherited traditional IRAs), distributions from inherited Roth IRAs generally remain tax-free.
- There are no required minimum distributions.
Roth IRAs do not have RMDs for the original owner. Traditional IRAs, 403(b) Plans, Roth / Traditional 401(k) Plans, and other employer-sponsored retirement savings plans do have RMDs. These RMDs must be calculated and withdrawn each year, and may result in taxable income. Since a Roth IRA eliminates the need to take RMDs, it may also enable you to pass more of your retirement savings onto your heirs.
- Tax flexibility in retirement
You have already paid the required taxes toward the contributions for a Roth IRA. As long as you follow these rules, you are allowed to withdraw your funds tax-free. Differentiating on how you take withdrawals between your qualified accounts may enable you to better manage your overall income tax liability in retirement. You could, for example, take withdrawals from a Traditional IRA until your taxable income reaches the top of a tax bracket, and then take additional funds you may need from a Roth IRA.
- Help reduce or even avoid the Medicare surtax
A Roth IRA may potentially help to limit your exposure to the Medicare surtax on net investment income. This is due to the qualified withdrawals from a Roth IRA that do not count toward the modified adjusted gross income (MAGI) threshold that determines the surtax. RMDs from traditional (i.e., pre-tax) accounts such as a workplace retirement plan—like a traditional 401(k)—or a traditional IRA, are included in MAGI and do count toward the MAGI threshold for the surtax. In essence, depending on your income during retirement, RMDs could expose you to the Medicare surtax; where effectively-utilizing Roth accounts may help you avoid such exposure.
If you have any questions or would like to learn more about this topic, Alex Ognenovski, J.D. can be reached at ognenovskiA@jgua.com or 607-936-3785 ext. 168