Do you want to help lower your taxes and increase your retirement savings? A Roth IRA, with its tax-free growth potential and tax-free withdrawals for you and your heirs, is a way you may be able to do just that (as long as certain requirements are met).1 And those are just a few of the benefits of a Roth IRA.
One important note: Not everyone can contribute to a Roth IRA, because of IRS income limits. If your income is over the limits, you still may be able to have one by converting existing money in a traditional IRA or other retirement savings account. (See “If you earn too much to contribute,” at the end of the article.)
1. Money may grow tax free; withdrawals are tax free, too.
You contribute money that has already been taxed (after-tax dollars) to a Roth IRA. There’s no tax deduction as there can be with a traditional IRA. But, any growth or earnings from the investments in the account—and money you take out in retirement—is free from federal taxes (and usually state and local taxes too), with a few conditions.1
2. There are no minimum required distributions.
Roth IRAs do not have minimum required distributions (MRDs)—also known as required minimum distributions (RMDs)—for the owner. Traditional IRAs and, generally, 401(k)s, 403(b)s, and other employer-sponsored retirement savings plans—both Roth and traditional—do. If you don’t need your distributions for essential expenses, MRDs may be a nuisance. They have to be calculated and withdrawn each year, and may result in taxable income. Because a Roth IRA eliminates the need to take MRDs, it may also enable you to pass on more of your retirement savings to your heirs (see below).
3. Leave tax-free money to heirs.
In many cases, a Roth IRA has legacy and estate planning benefits, but you need to consider the pros and cons—which can be subtle and complex. Be sure to consult an attorney or estate planning expert before attempting to use Roth accounts as part of an estate plan. While MRDs are also required for inherited Roth IRAs, those distributions generally remain tax free.
4. Tax flexibility in retirement.
You've already paid the taxes on the money in a Roth IRA, so as long as you follow the rules, you get to take out your money tax free. Mixing how you take withdrawals between your traditional IRAs and 401(k)s, or other qualified accounts, and Roth IRAs 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 money you need from a Roth IRA.
5. Help reduce or even avoid the Medicare surtax.
A Roth IRA may potentially help limit your exposure to the Medicare surtax on net investment income. This is because qualified withdrawals from a Roth IRA don’t count toward the modified adjusted gross income (MAGI) threshold that determines the surtax. MRDs from traditional (i.e., pretax) 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. Depending on your income in retirement, MRDs could expose you to the Medicare surtax.
6. Hedge against future tax hikes.
Will tax rates rise in the future? There’s no way to know for certain, but the top tax rate remains far below its historical highs, and if you think it might go up again, a Roth IRA may make sense.
7. Use your contributions at any time.
A Roth IRA enables you to take out 100% of what you have contributed at any time and for any reason, with no taxes or penalties. Only earnings in the Roth IRA are subject to restrictions on withdrawals. Generally, withdrawals are considered to come from contributions first. Distributions from earnings—which can be taxable if the conditions are not met—begin only when all contributions have been withdrawn.
8. If you’re older, you can continue to contribute as long as you work.
As long as you have earned compensation, whether it is a regular paycheck or 1099 income for contract work, you can contribute to a Roth IRA—no matter how old you are. There is no age requirement for contributions.
9. If you're young, your income is likely to rise.
The younger you are, the greater the chance that your income will be higher when you retire. For instance, if you’re under age 30, it’s likely that your income and spending during retirement will be significantly higher than it is at the beginning of your career. And the greater the difference between your income now and your income in retirement, the more advantageous a Roth account can be.
If you earn too much to contribute
In order to contribute to a Roth IRA, you must have employment compensation, and there are also income limits. If your income is over the IRS limits, the only way you can take advantage of a Roth IRA is by converting money from an existing retirement account, such as a traditional IRA.2 There is a cost, though. You need to pay taxes on what you convert.
No matter what your age, because a Roth IRA may improve your tax picture, it makes sense to take the time to see whether you would benefit from one.
- Roth IRA conversion checklist.
Fidelity does not provide legal or tax advice. The information herein is general and educational in nature and should not be considered legal or tax advice. Tax laws and regulations are complex and subject to change, which can materially impact investment results. Fidelity cannot guarantee that the information herein is accurate, complete, or timely. Fidelity makes no warranties with regard to such information or results obtained by its use, and disclaims any liability arising out of your use of, or any tax position taken in reliance on, such information. Consult an attorney or tax professional regarding your specific situation.
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