Should I Use a Traditional IRA or Roth IRA?

IRA? Golf clubs?

So, do you want a tax break now or a tax break when you retire? With a Traditional IRA you can often deduct what you put in each year. If your income was going to be $50,000, you could put $5,000 into the Traditional IRA account, and then your taxable income would drop to $45,000. The $5,000 would grow (we hope) over time without being taxed until you withdraw funds in retirement. As your investments earn interest, dividends, and capital gains, you can reinvest that money into more mutual funds, stocks, or bonds to earn compounded returns. On the other hand, if you make around $50,000, you might want to put $5,000 into your Roth IRA. This way, your taxable income is still going to be $50,000 now, but in retirement all the money coming out of your Roth IRA is tax-free. Big difference, right? If you withdraw $60,000 in retirement from your Traditional IRA, you might only keep $45,000 or less of that after taxes are figured in. In the Roth, on the other hand, if you withdraw $60,000, you keep $60,000. Remember, for the Traditional IRA you must begin withdrawals at age 70 1/2, while in the Roth, there is no such rule. Also, no more contributions are allowed into a Traditional IRA after age 70 1/2, while contributions can continue into a Roth IRA indefinitely, as long as you have earned income.Earned income is what it sounds like--you have to earn it by working, not by collecting bond interest, dividends, capital gains, or rental payments on your investment properties. If you want to keep funding your Roth IRA at, say, age 77, you'll probably need a part-time job. If the maximum contribution is $7,000 at that point, you'll need to make $7,000 or more if you want to max out your contribution. Then again, how much tax-deferral do you need at age 77? Remember, you will have to make withdrawals from your Traditional IRA at age 70 1/2. And, even if it is a Roth IRA, that money is there to pay your living expenses in retirement. Caveat: if your income is too high, you can't fund a Roth IRA. If you participate in an employer-sponsored plan, say a 401K, and you start making around $70,000 or more, you won't be able to deduct your contributions to a Traditional IRA. At that point, you'd probably be advised by your CPA to put money into your Roth IRA. But, I just try to teach the basics to help the average investor make sense of all the terminology involved with retirement savings. Always check out tax issues with your CPA. And, if you're a professional, you know that many, many details have been omitted from this overview. Any time we drill down into all the details of these accounts, we end up with hundreds of pages no one wants to read other than CPAs, CFPs, and tax attorneys. Get the E-Book Now