Traditional IRA vs Roth IRA: part 1

Traditional IRA vs Roth IRA: part 1

By Keith Bunn Jr.

January 27, 2014

Planning for Your Retirement in 2014

As we entered the New Year, some people may or may not be thinking about their retirements. If you haven't started thinking about it yet, you should start. Especially if you're young! I can't stress how important it is!!

Two years ago, I blogged about the difference between a traditional 401K vs. Roth 401K. Now I'd like to talk about the difference between a traditional IRA vs Roth IRA.

What is an IRA?

An IRA means Individual Retirement Arrangement according the current tax codes. The IRA itself is NOT the investment. The abbreviation "IRA" tells the IRS how the investments inside the IRA are going to be treated.

The IRA was introduced in 1974 as part of the Employee Retirement Income Security Act. It was intended to help people save for retirement. It is a tax deferred program, meaning, the money you put into an IRA does not get taxed until you start pulling the money out before or after 70 1/2 years old. I say after 70 1/2, because after that age, anyone who has an IRA will have to take out mandatory and government-calculated distributions from their IRA's.

 Even though you can take out withdrawals from your IRA early, under certain situations, if you are younger than 59 1/2, I do not recommend doing that. By taking early withdrawals, you will be hit with fees and the money you take out will be taxed heavily. So unless you are looking at your home being foreclosed on or a bankruptcy, I do not recommend taking early withdrawals from ANY retirement accounts. Including work related accounts like 401K's and 403B's.

Earned Income Only

Under current tax law, only those with an earned income are eligible to start an IRA. As of 2013, an But if your income is LESS than what the maximum contribution could be, you can not contribute more than what your total household income is. 

So in other words, you have to have a job to have an IRA, with the exception of a non-working spouse. If you and your spouse file your taxes jointly, you can both contribute up to the maximum $5,500 ($6,500 if you're over 50) even if one of you is not earning an income. 

Example: the working spouse can contribute $5,500 and the non-working spouse can contribute $5,500 for a total of $11,000 ($13,000 if you both are over 50) per year, or whatever your maximum household income is.

Part 2

Seeing that this is getting long, I'm going to explain what a Roth IRA is next week. I hope this blog gives you a better understanding on what an IRA really is. If you have any question, please don't hesitate to ask.

Announcement

With some extra training this past week, I am happy to announce that I am now an Independent Dave Ramsey Financial Coach! And I'm looking forward to using what I've learned to help you all with your finance issues! 

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