A Roth IRA offers tax-free withdrawals
With a Roth IRA, you get a future bonus: Every penny you withdraw in retirement stays in your pocket, not Uncle Sam's.
What is a Roth IRA?
A Roth IRA is an individual retirement account that offers tax-free growth and tax-free withdrawals in retirement. Roth IRA rules dictate that as long as you've owned your account for 5 years* and you're age 59½ or older, you can withdraw your money when you want to and you won't owe any federal taxes.
Other Roth IRA advantages
No RMDs
There are no required minimum distributions (RMDs) for as long as you live.
No age limit
You can put money in your account for as many years as you want, as long as you have earned income that qualifies.
No employer-plan restrictions
It doesn't matter if you're covered by an employer's retirement plan, such as a 401(k) or 403(b). As long as you don't exceed the IRS's income limits, you can still contribute the maximum annual amount to a Roth IRA.
For the 2020 and 2021 tax years, that's $6,000, or $7,000 if you're age 50 or older.
No taxes for your beneficiaries
You can pass your Roth IRA on to your beneficiaries, and their withdrawals will be tax-free.**
Some things to think about
Nondeductible contributions
Roth IRA contributions are never tax-deductible.
Income restrictions
Contributions may be limited by how much you earn—your modified adjusted gross income (MAGI) must be less than the annual limit set by the IRS.
Is your income OK for a Roth IRA?
If your income is too high for a Roth IRA, you could get to a Roth through the "back door."
To use this strategy, you'd start by placing your contribution in a traditional IRA—which has no income limits. Then, you'd move the money into a Roth IRA using a Roth conversion.
But make sure you understand the tax consequences before using this strategy because a Roth conversion is permanent—the contribution can't be moved back to a traditional IRA.
The sooner, the better
The younger you are when you open your IRA, the greater your saving potential because you get that tax-free compounding clock ticking longer and harder for you.
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REFERENCE CONTENT
Required minimum distributions (RMDs)
Most owners of traditional IRAs and employer-sponsored retirement plan accounts—like 401(k)s and 403(b)s—must withdraw part of their tax-deferred savings each year, starting at age 72 (age 70½ if you attained age 70½ before 2020). If you withdraw less than the RMD amount, you may owe a 50% penalty tax on the difference. Roth IRAs have no RMDs during the owner's lifetime.
Modified adjusted gross income (MAGI)
An amount used to determine a taxpayer's IRA eligibility. Generally, it's the taxpayer's adjusted gross income calculated without certain deductions and exclusions.
Compounding
The snowball effect that happens when your earnings generate even more earnings, not only on your original investments, but also on any interest, dividends, and capital gains that accumulate. That means that your "money makes money" and can grow faster over time.