In addition to employer-sponsored retirement accounts such as 401(k) and 403(b) plans, many people choose to save additional retirement assets in Individual Retirement Accounts (IRAs). Regardless of your stage in life, it is never too soon to plan for retirement. Even if you’re a young adult, small contributions today can end up having an impact on your future. Contributing to an IRA allows you to save additional assets in addition to an employer-sponsored account, and potentially save taxes as well. For both Traditional IRAs and Roth IRAs, contributions are limited to $7,000 per year or $8,000 per year if you’re over 59 and ½ for 2024.
There are two types of IRAs to choose between: Traditional IRAs and Roth IRAs.
TRADITIONAL IRAS
Traditional IRAs allow you to increase your tax-deferred retirement savings. Your contributions are pre-tax and may also be tax-deductible, so you receive immediate tax benefits. Your investments in a Traditional IRA will grow tax-deferred. You will pay ordinary income tax on withdrawals, and you are required to take distributions when you turn 73. There are no income limitations when opening a Traditional IRA, and it is typically a good option for people who expect to be in the same or lower tax bracket in the future.
ROTH IRA
With a Roth IRA, on the other hand, you won’t pay taxes as your money potentially grows, and you can make tax-free withdrawals during your retirement. So, your after-tax contributions and earnings grow tax-free, and you can withdraw tax-free after age 59 and ½ (as long as the account has been open for at least 5 years.) If you withdraw prior to 59 and 1/2, you will pay a penalty.
A Roth IRA is a smart savings option if you expect to be in a higher tax bracket in the future. Also, there are no Required Minimum Distributions (RMDs) with a Roth IRA, unlike Traditional IRA requirements. Additionally, a Roth IRA has income requirements, so you may not be eligible to open this type of account. For 2024, tax filers must have a modified adjusted gross income (MAGI) of less than $161,000. For a couple, the joint MAGI must be under $240,000.
WHO’S INHERITING YOUR IRA ASSETS?
You should also consider who will be inheriting your IRA assets. With new Secure 2.0 Act requirements, with few exceptions, individuals over 18 years of age inheriting from a Traditional IRA must take the taxable distributions within 10 years of the owner’s date of death. For minors who inherit, the 10 years begin after they turn 18. The inheritors will pay taxes according to their tax bracket in the year when they take distributions.
With a Roth IRA, however, taxes are paid prior to contributing to the account, so the inheritors receive distributions tax-free. So, if possible and if you can afford to pay the taxes, it might be worth converting Traditional IRAs to Roth IRAs so your beneficiaries can inherit IRA distributions tax-free when you pass away. Unfortunately, this might not work for you if you make over the income limit and if you don’t have at least 5 years before you plan to take distributions. But it’s definitely worth a conversation with your advisors to determine what makes the most sense depending on your situation, assets, and estate planning needs.
[View source.]
