Roth IRA vs. Traditional IRA: What Should You Choose?

With global financial stability in an increasingly precarious state, creating a financial safety net is more desirable than ever. Traditional and Roth IRAs offer an attractive, tax deferred package that lets money grow without requiring annual taxes on that growth. But which is the better option? Join us for an in-depth look at Roth vs. Traditional…

Are These 5 Assets Right for Your Retirement Savings?

With global financial stability in an increasingly precarious state, creating a financial safety net is more desirable than ever. Traditional and Roth IRAs offer an attractive, tax deferred package that lets money grow without requiring annual taxes on that growth. But which is the better option? Join us for an in-depth look at Roth vs. Traditional IRAs.

A Traditional IRA is a retirement account similar to a 401(k), but it does not require any type of employer involvement. Instead, you open the account yourself and contribute some of your pre- or after-tax earnings to the account each year.

A Roth IRA operates similarly to a Traditional IRA, but with some important differences when it comes to how taxes are handled that will make it more appealing to specific investors.

Which one is right for you? Let’s get into it.

What Is a Roth IRA?

As financial investment accounts, Roth IRAs allow individual investors to contribute a portion of their earnings toward their retirement. Once retirement age is reached, the funds can be easily withdrawn to supplement household income. Like a Traditional IRA, Roth IRAs do not require an employer to open an account.

What are the benefits of a Roth IRA?

There are many important benefits to Roth IRAs that will help make the decision as to whether or not they’re a better option for you than Traditional IRAs. In short:

  • Roth IRA withdrawals are tax-free. Contributions to Roth IRAs are always made after-tax, meaning from the IRS’s perspective, you’ve already paid taxes on them and will not need to be taxed again upon making a withdrawal.
  • Flexibility with withdrawals. You can make withdrawals from a Roth IRA account at any time without having to pay taxes or a fee.
  • No required minimum distribution. Unlike some retirement accounts, you won’t be forced to make a withdrawal from a Roth IRA once you hit a certain age.
  • Enables diversification. Some investors choose a combination of 401(k) or Traditional IRA and a Roth IRA due to the taxes on withdrawal that can be involved. Having a Roth IRA in the wings means you’ll be able to access funds tax-free early in your retirement, something neither of the other accounts can offer.
  • Roth IRAs are perfect for estate planning. With no minimum withdrawal requirements and no taxes for withdrawals, Roth IRAs are ideal for passing on to heirs.

What Is a Traditional IRA?

A Traditional IRA is, like it sounds, a more traditional financial retirement account. Contributions made to this account during your working years can be withdrawn during your retirement years. How that’s handled happens a bit differently than with Roth IRAs, but we’ll get into that in a moment.

What are the benefits of a Traditional IRA?

The rules of Traditional IRAs are different from a Roth IRA, and so come with their own benefits:

  • Contributions are tax-deferred. You can choose to make your contributions from a Traditional IRA to be before-tax or after-tax. If you’re making them before taxes, then you may qualify for a tax deduction that can lower your taxes each year you contribute.
  • Growth is tax-deferred. Not only are your before-tax contributions tax deferred, but the growth your Traditional IRA sees each year is tax-deferred, too. No need to worry about paying extra because your investments had a good year!
  • Save on your taxes. Along with being able to claim tax deductions from your contributions, you may be able to claim tax credits, too. The Saver's Credit will return up to 50% of your contribution to your IRA (up to $1,000) as a tax credit each year.
  • Flexibility with contributions. With a Traditional IRA, you’re able to control how much and how often you contribute, as long as you’re making qualified income.

What Are the Differences Between a Roth IRA and Traditional IRA?

While both make great choices for saving for retirement, and many benefits are shared by both, there are some key differences to keep in mind when considering Traditional IRAs vs. Roth IRAs. One of the biggest differences is how and when you’ll pay taxes on contributions and withdrawals. Additionally, Roth IRAs come with income requirements that could automatically help you determine if they’re an option for you. Other differences come into play with early withdrawals, contribution limits, and required minimum distributions.

Tax benefits

Tax benefits are one of the primary draws when considering a Roth IRA vs. a Traditional IRA - and one place they differ significantly. Since contributions to a Roth IRA are taxed going in, they aren’t taxed going out, and that means you won’t be taxed when you make a withdrawal. Traditional IRAs, however, do incorporate taxes on withdrawal.

If your account is over five years old and you’re over 59 ½, your Roth IRA will accumulate over time with no additional taxes paid based on how much was earned while the funds were in the account. In other words, your money can grow without requiring additional taxes on earnings in a Roth IRA.

In a Traditional IRA, growth in the account is tax deferred. That means that, while your balance can grow without a yearly tax fee, when you make the withdrawal, you’ll have to pay taxes on any amount that you withdraw (including the amount that was generated by the account over time).

With Traditional IRAs, you’ll also be able to take advantage of tax deductions for the year that you make contributions in. Both Roth and Traditional IRAs are eligible for the Saver’s Credit (but only incomes below $73,000 will qualify for that benefit).

Understanding how this helps you may come down to whether you are in a higher income tax bracket now then you will be when you retire, or if you don’t expect it to change. If your income is higher now, your tax bracket will be higher and so you could pay more taxes for contributing to a Roth IRA than you would if you were paying taxes on a withdrawal from a Traditional IRA in retirement when your income is lower. If you don’t expect your income to change, however, then Roth IRAs come with the peace of mind offered by tax-free withdrawals.

Income requirements

Roth IRAs come with income limits that will move them out of the range of possibility for some households.

If your household makes more than $228,000 a year (2023 limit) and you're married and filing jointly, then you will not be able to contribute any money to a Roth IRA. At the same time, if you're married and filing separately and made less than $10,000, you'll be able to contribute only a reduced amount. (Read more about specific Roth IRA contribution income guidelines and calculation used to determine partial contribution limits.)

Traditional IRAs, by contrast, have no income limits. With that said, however, you’ll still need to be making earned income to qualify to make contributions (income from investments, such as retinal properties, does not qualify).

Early withdrawal rules

Roth IRAs and Traditional IRAs differ in regard to how early withdrawal is handled, which could be important if you value access to emergency funds.

With Roth IRAs, withdrawals can be made any time of the year with no taxes or penalties. You can withdraw your contributions at any time of the year without having to pay taxes or penalties. Once your account has matured to five years after your first contribution, and if you’re older than 59½, you won’t pay taxes when you make withdrawals from earnings, either.

Traditional IRAs are more rigid when it comes to early withdrawals. You can still make early withdrawals at any time, but expect to pay a 10 percent penalty on your withdrawal in addition to paying taxes on it as income in the year that you withdraw it. If you’re over 59½, you won’t need to pay the 10 percent penalty.

Contribution limits

Both Traditional and Roth IRAs come with the same contribution limits in 2023. If you're under 50, you'll be able to contribute up to $6,500 to either a Traditional or Roth IRA. If you're over 50, you'll be able to add in $1,000 as a catch up contribution, for a total of $7,500.

Starting in 2024, with the passage of Secure Act 2.0, the $1,000 catch up contribution will be indexed for inflation, meaning it will steadily increase in the coming years.

Required minimum distributions

One of the biggest differences between a Roth and Traditional IRA is the required minimum distributions (RMDs).

In the case of Traditional IRAs, RMDs trigger once you hit either 73 or 75, depending on when you were born. Your first withdrawal must be made by April 1 of the year you hit 73 (as of 2023), though this will increase to 75 by 2033 thanks to the Secure Act 2.0. Subsequent withdrawals will need to be made by December 31 each year thereafter to avoid having to pay a penalty of up to 50% of the amount that was supposed to be withdrawn to meet the RMD.

Roth IRAs, on the other hand, have no RMDs, meaning you can let the money sit in the account as long as you wish (or bequeath it to a relative as a part of your estate).

What Can You Invest In With a Roth or Traditional IRA?

Whether you prefer a Traditional or Roth IRA, you’ll be able to select from a wide range of investment options. Each comes with its own benefits, so it's best to talk with an expert to see which one is best for your savings and retirement goals.

Apart from that, it’s important to know that there are different types of IRAs within the Roth and Traditional umbrella. With a self-directed IRA (SDIRA), for example, you can expand your investment options to assets to precious metals.

Precious metals SDIRAs are popular choices in the current economy as they offer the long-term benefits of investing in precious metals. Gold is considered to be a safe haven for investors, particularly when paper currencies are stumbling (click to read more reasons to buy gold). Precious metals in general are increasing in value due to their expanding utility in the technology industry.

Additionally, precious metals SDIRAs have added benefits over buying physical metals with after-tax funds, including paying less taxes in the long term. Learn more about how to buy gold and how it could help make your decision on opening a SDIRA.

Roth vs. Traditional IRA FAQs

Can you contribute to a Roth IRA and a Traditional IRA in the same year?

Definitely! You can contribute to both a Roth IRA and a Traditional IRA in any given year as long as you don’t exceed the contribution limits for that year. Remember that your contributions can’t exceed $6,500 (if you’re under 50) or $7,500 (if you’re over 50) between all of your IRA accounts.

Can you convert a Traditional IRA to a Roth IRA?

Even though the rules behind the types of accounts vary quite a bit, you can actually convert a Traditional IRA into a Roth IRA. Importantly, this lets you sidestep the income limits set by Roth IRAs as you’ll be able to rollover your funds into a Roth and enjoy tax-free withdrawals. Of course, you’ll need to pay taxes on the funds you convert from a Traditional IRA to a Roth IRA when you make the conversion.

There are other rules to consider before making the conversion. If you convert your funds from a Traditional IRA to a Roth IRA and make a withdrawal on those funds in under five years, for example, you’ll have to pay a 10% penalty.

Should you choose a Roth or Traditional IRA?

The choice between a Roth or Traditional IRA will most likely come down to your financial situation and your retirement goals. If your current tax rate is higher now than it will be when you retire, then you can safely invest in a Traditional IRA knowing that your taxes have been deferred to when your tax bracket is lower.

If your current tax rate is about the same now as it will be when you retire, contributing to a Roth IRA will let you handle the taxes up front and not worry about having to pay them later.

Beyond the tax benefits, other differences between a Roth and Traditional IRA include whether you’d like to make early withdrawals (in which case a Roth IRA would be a good option) and whether your income fits within the limit for Roth IRAs.

The Bottom Line: Roth IRAs vs. Traditional IRAs

Both Roth IRAs and Traditional IRAs are competitive tools to help you save for your retirement. Choosing between the two will require determining what’s most important to you when it comes to paying taxes and accessing your funds.

Roth IRAs are the most flexible option as they allow you to make withdrawals on your contributions at any time without having to pay any penalties or taxes. If your income is higher now than it will be when you retire, though, a Traditional IRA may be the better choice to take advantage of the tax deferment benefit.

Regardless of which you pick, it's important to remember to always keep your nest egg diversified. By considering a self-directed IRA (whether Traditional or Roth) and investing in precious metals such as gold and silver, you can get the benefit of hedging against inflation with enduringly popular metals. Gold’s advantage as a tangible asset with a finite value could go a long way toward adding stability to your retirement account.

If you’d like to find out how to get started with an SDIRA and open the door to precious metals investment, contact Birch Gold Group today and we’ll send you an information kit with everything you need to know. Among our most popular products are the Gold Roth IRA, which allows customers to invest in IRA-approved gold coins and rounds.

For help with meeting your retirement goals, check out our information kit and see what options are available for you today.

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