The New Kid on the Block

In 1998, Congress added a new twist when legislation authorized the creation of the Roth IRA. OK, so it's not really the "new" kid anymore, but a lot of folks are still confused about the differences between the Roth and traditional IRA, so let's take the mystery out of the equation right now.

Roth contribution limits are the same as traditional IRAs, but keep in mind that they are reduced by any contributions you make to traditional IRAs. So, if you put $4,000 into a traditional IRA for 2008, you can only contribute $1,000 to a Roth IRA, for a grand total contribution of $5,000 for the tax year.

The most significant difference between the traditional IRA and Roth IRA is the way taxes are handled: The Roth IRA is funded with after-tax dollars, rather than pre-tax dollars, but as a result, you owe no taxes on your withdrawals.

Here's the tradeoff: While you lose the tax-deferral benefit of a traditional IRA and forfeit any tax advantages in the current year, with a Roth you should more than make up for by avoiding taxes on your principal and earnings in the long run when you withdraw them (as long as they withdrawals are qualified, primarily meaning after age 59-1/2 and if you have owned the IRA for at least 5 years).

As with a traditional IRA, certain additional withdrawals from a Roth IRA (even before age 59 ½) may also be tax- and penalty-free. These include the first-time purchase of a home, disability, unreimbursed medical expenses more than 7.5% of your adjusted gross income, qualified higher education expenses, and a few others. (More on withdrawals and penalties here.)

There are two other important differences to note between Roth and traditional IRAs: First, the annual income levels for full contributions are much higher for a Roth IRA than a traditional IRA. Individuals making less than $116,000 and married taxpayers filing jointly who make less than $169,000, can make at least a partial contribution to a Roth for the 2007 tax year. (Get all of the eligibility and contribution limits here.)

Second, the Roth IRA doesn't require minimum withdrawals when you reach age 70-1/2. (Find out all of the details about withdrawals here.)

Choosing which IRA is right for you don't have to be complicated. Read our article for our rule of thumb to help you decide.

Get Started Today!

Here's some Dolan Straight Talk on IRAs: We can't think of very many good excuses for not opening either a Roth or a traditional IRA account. If you don't utilize these important retirement savings vehicles, you are seriously damaging your chances to live the retirement you dream about.

Contributing to either kind of IRA – especially if start early – is a relatively painless way to ensure a golden retirement. But even if you begin later in life, it can still substantially boost your bottom line.

As we said, an IRA is one of the most effective ways for you to make your Golden Years truly "golden," so please don't delay. Get started today!

Page « Previous 1 2 3