Retirement accounts can work wonders when it comes to long-term saving and investing. No single retirement account is exactly the same, but they each come with various perks. One of those accounts is a Roth IRA -- and when used properly, it can be a great source of income in retirement. If you haven't opened a Roth IRA, you should. Here are three reasons you'll be thankful you did.
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1. You may eventually be ineligible
For 2022, the maximum contribution to a Roth IRA is $6,000 ($7,000 if you're 50 or older). However, unlike a 401(k) or traditional IRA, not everyone will be eligible to contribute to a Roth IRA because of its income limit. If you're single and have a modified adjusted gross income of less than $129,000, you can contribute up to the max. Married couples filing jointly must make less than $204,000 to contribute up to the max.
Once your income crosses those thresholds, the amount you're eligible to contribute phases out until your income reaches $144,000 (214,000 if married and filing jointly), at which point you become ineligible altogether. Assuming your goal is to increase your earnings as your career progresses, you may find yourself over the income limit for Roth IRA contributions at some point. Because of its excellent tax incentives, you'll be very thankful you took advantage of it while you had the chance.
2. Money grows tax-free
Oftentimes, when someone is trying to decide between a Roth IRA or traditional IRA, it comes down to when they want their tax break. Since you contribute after-tax money into a Roth IRA, you get to take tax-free withdrawals in retirement. On the other hand, when you take 401(k) or traditional IRA withdrawals in retirement, you'll pay income taxes on that amount.
If your tax bracket is likely to be higher when you retire, you might as well pay taxes on the money upfront before it grows, and you're in a higher bracket. Being able to have your contributions grow and compound tax-free can easily save you tens of thousands when you decide to take withdrawals in retirement. Imagine if you're able to accumulate $1 million in your 401(k). Even at the very lowest tax rate -- 10% -- that's $100,00 that will go to taxes from your savings. If it's taxed at 24%, that's close to a quarter of your total savings.
3. There are no required minimum distributions
One of the best perks of a Roth IRA is that there are no required minimum distributions (RMDs). An RMD is the amount required to be withdrawn each year from a retirement account like a traditional IRA or 401(k). Once you turn 72, you must take your first RMD by April 1 of the following year. So if you turn 72 on June 1, 2022, you must take your first RMD by April 1, 2023.
Since you don't have to take RMDs with a Roth IRA, you have the option to never take withdrawals from the account, giving it the chance to continue growing and compounding. In fact, even if you never take withdrawals, it can be passed on to a beneficiary, such as a child, once you pass away. If you were to contribute $500 monthly with a 10% annual return, the difference between letting it grow for 25 years versus 30 years is over $396,000.
