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Roth IRA or Traditional IRA: Which One Is Right for You?

By Katie Brockman - Mar 10, 2019 at 12:17PM

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They're both great options, but they have their advantages and disadvantages.

When it comes to saving for retirement, you have several options for where to stash your cash. If your company offers a 401(k) plan, you may choose to go that route and simply contribute a portion of each paycheck to your retirement savings.

What if you don't have a 401(k), though? Only 59% of American employees have access to a defined contribution plan like a 401(k), according to the Bureau of Labor Statistics, which means a good chunk of workers are on their own when it comes to funding a retirement account.

Hand putting a coin into a piggy bank

Image source: Getty Images.

The most common solution is to open an IRA, or individual retirement account. But there are several different types of IRAs to choose from, the most popular being Roth IRAs and traditional IRAs. Although they're similar in many ways, they do have key differences. And it's important to understand those differences before deciding which one is right for you.

Traditional vs. Roth: What's the difference?

The biggest difference between traditional IRAs and Roth IRAs is how they're taxed. With a traditional IRA, contributions are tax-deductible up front. But when you begin withdrawing the money in retirement, you'll then have to pay income taxes on it. With a Roth IRA, you'll pay taxes on the initial contributions, but you'll be able to withdraw the money tax-free during retirement.

Keep in mind that with both types of accounts, if you withdraw before age 59 1/2, you may be subject to penalty fees from the IRS. With a traditional IRA, you'll have to pay a 10% penalty, as well as income taxes on the amount you withdraw. For Roth accounts, because you've already paid taxes on your contributions, you're allowed to withdraw that money without any penalties. However, you will pay a 10% penalty on any of the gains you've earned on the contributions.

Also, with traditional IRAs, you're required to start taking distributions at age 70 1/2 -- because you haven't paid taxes on that money yet, the IRS won't let you hold onto it forever. Roth IRAs don't have required minimum distributions, since your contributions have already been taxed.

There are also income restrictions around who is allowed to even open a Roth IRA. If you're a single filer, you're eligible to contribute the full $6,000 per year allowed (or $7,000 per year if you're 50 or older) if you're earning less than $122,000 per year. For those earning between $122,000 and $137,000, you're able to contribute, but not the entire $6,000. And if you're earning more than $137,000 per year, you're not eligible to contribute to a Roth IRA at all. For those who are married filing jointly, the phase-out starts at $193,000 per year in income, and you're ineligible if you're earning $203,000 per year or more. (Keep in mind, though, that even if you're ineligible for a Roth IRA, you can take advantage of the "backdoor" method by contributing to a traditional IRA and then converting it to a Roth.)

Which one is right for you?

Choosing between a Roth IRA and a traditional IRA may sound like a difficult decision, but for most people, your total savings won't be dramatically affected regardless of which one you choose. That being said, there are some factors that could encourage you to lean one way or the other.

For example, if you're a high earner now, you may choose to go with a traditional IRA to get a bigger deduction now. Then if you're in a lower tax bracket by the time you retire, you'll have to pay less in income taxes. Likewise, if you expect to be earning more money in your later years than you are now, a Roth IRA may be the way to go because you won't need to pay income taxes in that higher tax bracket.

Another scenario that could make the Roth IRA advantageous is if you're planning on continuing to work into your 70s. Because you're required to start making withdrawals from a traditional IRA at age 70 1/2, if you're still working in your 70s, that extra income could potentially push you into a higher tax bracket.

Sometimes, the best option is to not choose between them. There's no rule against opening both a traditional and a Roth IRA, and doing so could help you balance your investments and limit your tax risks. Then once you get closer to retirement and have a better idea of what tax bracket you'll be in, you can decide whether it would be beneficial to make additional contributions to a traditional IRA rather than a Roth IRA, or vice versa.

If you don't have access to a 401(k) through your employer, you may feel like your retirement savings options are limited. But both traditional and Roth IRAs are great choices, and with a wider variety of investing options, they may even be better than a 401(k) in some cases. No matter which account you choose (or if you decide to open one of each), the biggest step is just getting started.

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