It's easy to fall into the trap of believing that a Roth IRA's benefits are limited to retirement. After all, you've probably been told that you can contribute money you've already paid taxes on, grow your investments through the power of compounding, and withdraw your earnings 100% tax-free after you've reached age 59 1/2.
But there are exceptions embedded within the tax code that make the Roth IRA a treasure before and during retirement. If you want to get a glimpse of how this individual retirement account can provide you with more options throughout your lifetime, start maxing out your Roth IRA and enjoy access to benefits you've never had before.
Withdraw contributions anytime you want
There are two components of a Roth IRA account: contributions and earnings. Most people have no idea that you can always take out your contributions. On the other hand, your earnings will be taxed if you touch them before you're eligible.
This concept can be pretty confusing for most because there are all types of penalties and restrictions that come with other retirement accounts. But the Roth IRA comes with built-in flexibility that makes it the perfect option for savers who don't want all their money tied up.
Let's say you contribute the maximum of $6,000 to a Roth IRA (2021 contribution limit) and your investments grow to $7,000. You are eligible to take the $6,000 whenever you want. It's the growth in your account -- the additional $1,000 you earned -- that would sound the alarm and potentially trigger taxes and penalties if you don't follow the rules.
Bottom line: You can always withdraw what you contribute to your Roth IRA without paying taxes or penalties. There's no need to wait until you're 59 1/2. You'll just need to remember that once you take the money out, you can't put it back in as replacement funds. You are still subject to the annual contribution limits.
Fund your education
If you or a loved one is considering going to college, you may be able to hold off on student loans. A Roth IRA can be used to fund your or a loved one's college tab. This is a perfect option if you already have a healthy portfolio of investments in a workplace retirement plan and can spare some extra cash for qualified educational expenses.
Typically, withdrawing money from a retirement account early can leave you with a big tax penalty. But you can dodge the 10% penalty if you use your Roth IRA funds to pay for qualified education expenses such as tuition, books, fees, and supplies.
If you want to take advantage of this Roth IRA education option, start stashing away as much as you can every month into the account until you reach the contribution limit. You can even open a Roth IRA for your child if they have earned income from working a job. It's a great way to have a backup source of funding that can be used to pay for education or start your child's wealth-building journey.
Purchase a home
One of the best-kept Roth IRA secrets is the homeowner's exemption. It comes in handy when you're trying to purchase a home and don't have enough savings to take the next step.
Roth IRA holders are eligible to use up to $10,000 of earnings (lifetime limit) to build, rebuild, or buy a home without a penalty or paying tax on those earnings. Make sure you adhere to the five-year rule and pass the qualified distribution test. This allows you to bypass the taxes that you would have to pay if you tried to claim this homeowner's exemption through a traditional IRA. But here's the catch: You have to qualify as a first-time homebuyer. Fortunately, a first-time homebuyer really means that you haven't owned a home within the last two years.
This homeowner's exemption becomes even sweeter when you add in the benefits of your contributions. The $10,000 exemption for homeowners is in addition to all the contributions you've made. So if you've contributed $40,000 to your Roth IRA account over the last 10 years, you can take out the entire $40,000 plus the $10,000 homebuyer exemption amount.
Benefits are better than ever
More people are eligible to contribute to a Roth IRA because the income ranges have increased. If you qualify to contribute, take advantage. This is one offer that may not last forever.
Although you may have initially fallen in love with the Roth IRA because of the unlimited amount of tax-free income you can enjoy during retirement, that's only the beginning of the benefits. It's one of the hottest accounts on the planet because it can act as a flexible savings option to meet your current needs while helping you build a portfolio of wealth that funds your future lifestyle.