A Traditional IRA is tax deductible. That means all the hard earned dollars you put in that pot, as well as the money your contributions have earned, will not be taxed until far in the future. That is a very good thing, according to Martha Stewart, and experts much more qualified than she.
That money will not be taxed until you reach your retirement age or at least age 59 ½, which is the earliest age you can receive payouts from the IRA without penalty. For example, if you are a young person in a 20% tax bracket, earning $25,000 and you put 10% of your income or $2500 into the pot, Uncle Sam will only tax $22500 of your earnings, which amounts to $4500. Without the deduction, the taxes on $25000 would be $5000, That represents a $500 savings that goes back into your pocket.
Free money is good money and is a strong incentive to keep investing in your Traditional IRA. Where your IRA money gets invested, can have an effect on your pot’s growth over the years. You should have options that will encourage more growth than you might expect from typical low yield IRA CDs.
Roth IRAs by comparison, are taxed differently than a Traditional IRA. Your contributions, unlike those made to a Traditional plan, are not deductible. The truly exciting news about the Roth versus a Traditional IRA is that earnings are not taxed. Your money continues to grow and compound until you are a wealthy, old person with enough stashed in your IRA to carry you through the remainder of your life.
If you are single, you can earn up to $95,000 or $150,000 if married, when invested in a Roth IRA. You may be able to withdraw some of your principal without penalty under certain conditions. If you are a first time home buyer and need money for a down payment on a home, you can take $10,000 of your profits and use it for that purpose. The only condition is that the money must have been in the account for five years or more. There are even more ways to draw money before its time, including money needed for educational purposes.
It would seem that the benefits of a Roth Plan far outnumber those of a Traditional IRA. Often individuals rush into an investment plan that may not be in their best interests. If you convert you will have to pay taxes on your old Traditional IRA, but you will not have to pay any penalty. Other factors, like your current income bracket versus the bracket you will find yourself in at retirement should be considered.
Can you comfortably afford to pay the income tax due? How long can you can leave funds in your new Roth untouched? These are both questions that need to be resolved and are best answered by consulting with an experienced tax adviser and your planner. It would seem that the clear advantage goes to Roth IRAs, but each individual’s situation needs to be understood fully.