Roth IRAs are much different.  After you’ve had your account for five years, you can withdraw money from it tax free and penalty free.  Of course, if you remove your money within five years of opening your account, you will be subject to the usual 10% penalty unless one of the above exceptions applies.  Even if you pay the penalty, though, you still will not be taxed on your withdrawal.  This no-tax rule makes Roth IRAs a good choice for people who want to save for retirement but who are afraid that they might need to use their savings for big, unanticipated expenses in the future. 

Retirement distributions
The primary purpose of an IRA is to save money for your retirement.  So how do the traditional and Roth IRAs compare when you reach that promised land?  The usual rule of thumb is that distributions from a traditional IRA are taxable, while distributions from a Roth IRA are not.  Furthermore, participants in traditional IRAs are required to receive distributions from their accounts, whether they want to or not.  Participants in Roth IRAs are not required to take any distribution at all. 

So how should you choose between these two options?  If you expect to be in a lower tax bracket in retirement, the traditional IRA might be the best path.  However, if you are paying lower taxes now but are expecting an inheritance or career promotions to increase your income later, a Roth might be for you.  Or, to be more cynical, if you expect Congress to raise taxes in order to cover the astounding federal debt, Roth is your winner.  Finally, if you expect to die rich, the Roth is a better choice for your heirs.  You aren’t required to take minimum distributions from your Roth account, which will preserve your account balance.  And when your heirs receive distributions from your account, they will be tax free, just as if they had been paid to you.

Of course, you can always hedge your bets by funding both a traditional and a Roth IRA.  Your choices about how much money to put where may vary from year to year.  Contribution limits, your tax bracket, your concerns about large future expenses and your predicted retirement tax rate should all play a role in your yearly decision.  Use the information that you’ve learned here, and your careful planning will keep the IRS from taking more than its fair share of your nest egg.            

Be sure to check out the complete archive of Daily Deductions.

Related Articles:
Daily Deduction: IRA Contributions

How To Choose a Less Taxing 401(k)

How to Roll Over Your 401(k) Into an IRA