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EPISODE 5 - LISTENER REQUEST: WHAT ARE ROTH IRAS?

investing podcasts retirement planning Aug 15, 2019

Always wondered about Roth IRAs?  Join Tiffany as she breaks down what they are and how to best utilize them.

This is a listener request episode.  If you want to have your question featured, please submit on our website.

 

Transcription

Welcome to Money Talk with Tiff, a podcast where we discuss everything money – from tips and tricks to current events. Follow me on my journey to become debt-free, and meet other cool people along the way. I’m your host, Tiffany Grant, now let’s talk money.

Introduction

This episode is a listener request. So, I will have these kinds of episodes from time to time to field your money questions and talk about what you want to hear.

There are a few ways to submit your questions.

  1. By going to my website (I’ll have a link in the show notes, and then you can go to Ask Tiffany).
  2. Another way is to be in my Facebook group because I interact daily with everyone on my Facebook group, and they’re able to ask me questions right in there. So, to be a member of that, you need to become a patron, a Patreon on my Patreon account, and I’ll have a link in the show notes for that as well.

Anyway, the question that I got from my Facebook group was – What is a Roth IRA or a Roth 401k? So, I thought it would be a good idea to go ahead and explain where the Roth name came from.

Origin of Roths

So, back in 1997, there was a Taxpayer Relief Act that was passed. One of the parts of that Act was a bill from Senator William Roth, who was a strong advocate for people to contribute to the IRAs on a post-tax basis, and there’s a variety of reasons why that would be beneficial.

“Some people need the discipline of the taxes and penalties of a traditional IRA to avoid the temptation to use the money too quickly in retirement.”

– Senator Willian V. Roth Jr.

Anyway, he was able to get the bill into the Act, and the Act was passed in 1997. That’s where the Roth name comes from.

Roth IRA vs. Roth 401k

So, the most significant difference, like I said, is the tax treatment between the Roth and Traditional Retirement Accounts. Now, Retirement accounts come in many different flavors. For the purpose of this episode, I’m going to try to focus on IRAs which are Individual Retirement Accounts. Your employer sponsors 401ks, and they’re another way you can save for retirement, but pretty much the same rules apply for a Roth IRA and a Roth 401k.

The main difference between the two is that, with a Roth IRA, your contribution limit is $6,000 if you’re under the age of 50, and if you’re over the age of 50, they allow you to do a thousand dollars catch-up contribution. So, your total for the year will be $7,000, and then for the 401k, it’s $19,000 if you’re under 50, and if you’re over 50, they allow you $6,000 catch-up, which will give you a total of $25,000. So that’s three main differences between Roth 401ks and Roth IRAs.

So, with that being said, now I’m going to stick to Roth IRAs because those are the most popular. Roth 401ks are semi-new to the market, to employers, not every employer offers them, but if they do, these rules still apply.

So with Roth IRA, all of your contributions are post-tax because they are not deducted pre-tax by your employer, so that means that they do not get the special tax treatment that Traditional accounts do, as in reducing your tax bill.

For instance, let’s say I get paid $300, and I don’t want to contribute $50 to a Roth IRA; that money will be post-tax. So that means that I cannot write it off on my taxes either, so just keep that in mind when you’re contributing to Roth - that’s the main difference (post-tax vs. pre-tax).

With that said, if you satisfy the requirements for the distribution and have a qualified distribution, all of your distribution is tax-free. So that’s a stark difference between a traditional account where you will be taxed when you take that money out because that money was pre-tax when it when in. So, the government is going to want some of their money. That’s one of the significant differences.

Now, you can contribute to your Roth RIAs, even after you reach age 70 and a half. Now that’s important because, with a traditional account, you have to start taking required minimum distributions (RMDs) at age 70 and a half because the government is saying, “Hey! You had this money tax-free for way too long; it’s time for you to start taking it out, let us takes it, snd then we can get our money.” So, that’s the huge difference with Roth IRAs too.

Taking Advantage of Roth IRAs

You can leave money in your Roth IRA for as long as you like; like I said, that’s different in traditional accounts where they force you to start taking it out at 70 and a half.

Roth IRAs are a really good option for those that are in the lower tax bracket currently. It allows you to take advantage of being taxed at the lower tax bracket, and then as you get older, and you get higher in your career, and a higher tax bracket, you don’t have to be worried about being taxed again. With traditional IRAs and 401ks, you will be taxed later on.

So, the decision comes into play – do you want to lock in the tax bracket that you’re in now, or do you think you’ll be in a lower tax bracket later? And then, another option is to just contribute to both. You can have a Roth and a Traditional account; there are no laws against that. So, that way, you have options when you get older. You can choose between taking distributions from the Roth account or the Traditional account. It just opens you to more options.

Personally, I do have both Roth and Traditional accounts, and the main reason for that is when you have a match at your employer. Even though you’re contributing on a Roth basis, their contributions will be pre-tax because they want the tax benefit. So even if you’re contributing Roth at your employer, you will still have pre-tax money that goes in that, which is in the form of the match from your employer. So that’s just a little quick tip.

Anyway, I hope that answers your questions about what Roths are. There’s plenty I can talk about when it comes to them, especially the qualified distributions and what counts. With Roth accounts, one important thing that I love about Roth is that if you’ve had the account for at least five years, you can take out the money you put in. You don’t have to worry about paying taxes in that if it’s for something significant like a down payment for a house or something similar.

Conclusion

I’ll have greater details about that later. I have a link to the RIA website where you can read more, but that’s a huge benefit for people as well.

“I love the Roth IRA. Tax-free income in retirement is a truly great deal.”

– Suze Orman

So, it’s completely up to you how you save for your retirement. The important thing is just to start and just to do it! Because that is the biggest way, you can invest today, especially if your employer offers matches. Even if your employer doesn’t offer a 401k, you can still contribute to a Roth, as long as what you contribute is equal to how much you’re bringing in. So, let’s say for instance, I open up a Roth RIA, and I’m working on a job where I’m making, let’s say, $300 every two weeks, and as a part of that, my job doesn’t offer the benefit of having a Roth or a 401k.

So, what I can do is to take up to $300 every two weeks and put it into a Roth IRA, so that way I’m still saving for retirement, but just not through my employer, and you can do that up to the limit which I stated before – which is $6,000 per year if you’re under 50 and $7,000 is your over 50.

Hopefully, that helps you explain what an RIA and a Roth 401k are, and maybe you can start contributing.

Thank you for listening to the Money Talk with Tiff Podcast. For free resources and materials, head over to moneytalkwitht.com, and while you’re there, why not sign up for our newsletter, so you’ll never miss an episode. Talk to you soon…

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