Your 2019 IRA Guide
When it comes to retirement savings, one of the best options available to those
who don't have a workplace retirement plan is an IRA. These savings vehicles
allow for future retirees to save up to $6,000 per year in a tax-advantaged
manner as of 2019. Those who have reached age 50 can add another $1,000 to
their accounts each year.
Types of IRAs
There are two main types of IRAs. The first is the traditional IRA, and it allows
individuals to save on a tax-deferred basis. Effectively, a traditional IRA allows
account holders to cut their adjusted gross income by the amount of their
savings. This will cut a retirement saver's taxes in the year the money gets
saved. The second is the Roth IRA, and this account allows people to save
after-tax income while allowing for tax-free growth and withdrawals as long as
certain conditions are met.
When Are Taxes Due?
The tax advantages of IRA accounts are their strongest characteristic. In a
taxable account, savers would have to pay taxes on any dividends or capital
gains earned within a given year. Within an IRA, those taxes are deferred in the
case of a traditional IRA or nonexistent in the case of a Roth. Those who have a
Roth IRA pay their tax bill up front, and the government will never tax the
contributions or the withdrawals as long as the withdrawal of any gains comes
after age 59.5.
On the other hand, those who save in a traditional IRA will have to pay taxes
when they withdraw the money. The effective rate could be 0% as long as the
taxpayer has enough deductions to avoid exceeding the standard deduction or
any itemized deductions. Most people will not find themselves in this situation.
The rate could theoretically go up to the top marginal rate the IRS charges at
any given time. As of 2019, that rate is 37%, but a retiree would have to have an
income of more than $500,000 to hit that rate.
With a Roth IRA, it's possible to take out the contributions without penalty at any
time as long as the account is at least five years old. This is not possible with a
traditional account. Any withdrawal from a traditional IRA will be taxable
because of the up-front tax deduction. The government wants the tax revenue at
some point. Any withdrawals of contributions or growth from a traditional IRA
would incur an early withdrawal penalty of 10% if the account holder is not yet
59.5 years old. Only the growth would see the early withdrawal penalty with a
Which Is Better?
Like many personal finance decisions, the answer to the question of which IRA
is better depends upon a person's individual situation. Those who have higher
incomes can lose the tax benefit on a traditional IRA if they have a workplace
retirement plan like a 401(k). The ability to contribute to a Roth IRA phases out if
a worker makes $137,000 as of 2019. Couples can make up to $203,000 and
still contribute to a Roth. Those who are married with children and have a
relatively low income would likely do better with a Roth because they would pay
little in taxes even before any IRA savings. Those with a higher income can take
advantage of the tax-deferred benefit of the traditional IRA.
It's also possible to contribute to a "backdoor" Roth account. Families with
higher incomes could transfer money from a traditional IRA to a Roth in years
they have a low adjusted gross income due to deductions from business losses
or other reasons. This allows for the tax-deferred deduction up front and the
benefits of tax-free withdrawals from a Roth while minimizing taxable income
throughout the process.
Another consideration when it comes to IRAs are the required minimum
distributions, commonly known as RMDs. There are no RMDs with a Roth IRA,
which could leave the money to compound for decades after retirement. Those
who invest in a traditional IRA will have to take out a growing percentage of their
accounts each year after hitting 70.5 years of age. The percentage grows each
year based upon expected mortality rates. Again, the government wants the tax
revenue at some point. Regardless, of which account a person decides to use,
deciding to save for retirement is an important step to take to ensure financial
stability in old age.
This information is not intended to be a substitute for specific individualized tax
advice. We suggest that you discuss your specific situation with a qualified tax