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3 Incredible Roth IRA Tax Benefits

By Charlene Rhinehart, CPA – Jun 24, 2021 at 8:08AM

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It's the perfect time to rack up some of the best retirement-account tax perks.

If you've been pushing retirement savings to the back burner, there's one benefit that might cause you to have a change of heart: lower taxes. Retirement accounts can position you to pay less in taxes now or enjoy tax-free income later. A great way to set your future self up for a tax-free distribution of money is through an individual retirement account, or Roth IRA

Established in 1997, the Roth IRA has been ranked as one of the most desirable accounts on the retirement scene. It offers an assortment of unique tax benefits that are hard to find anywhere else. If you're new to the Roth IRA or have no idea how to maximize your benefits, here's a glimpse of some of the tax benefits you can start tapping into right now. 

Roth egg sitting in bird nest surrounded by money.

Image source: Getty Images.

1. Allow your money to grow tax-free

When you contribute money to a Roth IRA, you are funding your account with money you have already paid taxes on. This is a huge perk if you expect to be in a higher tax bracket later in life. Paying your tax bill upfront allows you to build a massive portfolio without stressing over how much money you'll owe the IRS later. 

Let's say you contribute the maximum amount of $6,000 for 2021. As you invest in your favorite stocks or exchange traded funds (ETFs), you'll have the chance to watch your $6,000 grow to $7,000 and beyond over time.

You won't have to report any of the growth on your annual tax return as long as you keep the money in your account. You can also sell stocks that have grown in value and use the funds to purchase other assets in your account. Again, you won't have to worry about taxes on assets that have appreciated or were sold in your account if you keep the money in your Roth IRA. 

If you're 50 or older, you can contribute a maximum of $7,000 to a Roth IRA for 2021. Make sure you check the box on the income requirements to make eligible contributions. The more money you save in a Roth IRA, the more tax-free growth you can potentially unlock.

2. Enjoy tax-free withdrawals

If you're excited about tax-free growth, there's another reason to jump for joy: tax-free withdrawals. This is one of the most attractive benefits that Roth IRAs offer. 

Let's say you contribute $100,000 over 20 years. When you look at your Roth IRA account balance, you've noticed that your investments have landed you a whopping $500,000 in your account. The entire balance in your account will be 100% tax-free as soon as you're eligible to make qualified withdrawals. 

If you want to lock in your tax-free withdrawal status, make sure you've met the five-year holding period and are older than 59 1/2. However, there are qualified exceptions that allow you to tap into your Roth IRA treasure before you retire. You can also withdraw contributions you've made to your account anytime you want. You just have to meet the special requirements to touch the earnings you've accumulated in your account to avoid taxes and penalties. 

3. Earn a tax credit this year 

Although you won't qualify for tax-deductible contributions when you put money away in a Roth IRA, you may still be able to capture some tax benefits now with the Saver's Credit. Many people who qualify for this credit have no idea that they can claim up to $1,000 (single filers) or $2,000 (married filers) on their tax return for saving toward retirement. 

Here's how it works. First, contribute as much money as you want to a Roth IRA up to the limit. Based on your filing status and adjusted gross income (AGI), you can earn a 50%, 20%, or 10% credit. Tax credits are powerful, providing a dollar-for-dollar reduction of the income tax you owe at the end of the year. If your tax bill is $1,000, the Saver's Credit could potentially wipe away your entire tax bill and leave you with a clean slate. Since the Saver's Credit is nonrefundable, you'll have a chance to reduce your tax bill to zero, but you won't be able to pocket any surplus amounts. 

Income limits on the Saver's Credit are set to focus on low- and middle-income taxpayers, so those earning higher incomes won't necessarily qualify. Nevertheless, many people who do qualify are surprised to find out about the credit, so it's worth checking out.

Tax perks right at your fingertips 

If you were hoping for a gift from the IRS, the Roth IRA might just be it. You get the best of both worlds: tax benefits and a chance to build a secure retirement.

Although the benefits of a Roth IRA may sound too good to pass up, it might not be the top choice for every retirement saver. It's important to look at where you are now and estimate your future tax obligations to determine the best move to make.

But if you already know that the Roth IRA is the perfect match for you, start capitalizing on all the tax benefits now so you can take your rewards to the next level. 

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