welcome to 2 minutes moneyYahoo Finance’s new Personal Finance series provides a quick guide to some of the most important questions about money.
Do you know the difference between an IRA and a Roth IRA? More than half of Americans don’t, and we know the two can be confusing. But we’re here to break it down. Both types of IRAs function in much the same way. He can only contribute up to $5,500 a year, and he can only take the money out before he turns 59 1/2 for things like buying a home or paying medical bills.
when money is taxed
The big difference between a Roth and a traditional IRA is when the money you deposit into your account is taxed. With a traditional IRA, taxes are deducted when you withdraw your savings in retirement, and annual contributions reduce your tax liability. Deposit a little money into your account every month and watch your money grow. You can then withdraw your funds when you reach age 59 and a half. Money is taxed after it is withdrawn from the account.
With a Roth IRA, you pay taxes before you put money into your account, not when you take it out. You’ll continue to make monthly contributions, but you’ll pay taxes at your current tax rate. A Roth IRA is ideal if you expect to receive increases throughout your career and expect to be in higher taxes when you retire than you are now.
Where income limits and employer plans fit in
Keep in mind that Roth IRAs have income limits. If you earned more than $133,000 in 2017, you won’t qualify for a Roth and will need to switch to a traditional IRA. Traditional IRAs are not limited by income, but if a person has an employer-sponsored retirement account like a 401(k), his ability to deduct IRA contributions begins to be limited to his $61,000. Of course, if your employer matches your girlfriend’s 401k contributions, you should invest there first. After all, it’s free money you get from your job.
Which IRA is right for you?
Roth IRAs are definitely the more popular option. In 2013, he contributed nearly $1.5 billion more than a traditional IRA. But both retirement accounts have advantages. If you plan to retire early and live frugally for many years, or if you expect your income to decline, a traditional IRA may be better for you. If you are young and expect to earn more money in the future, a Roth IRA is your best bet.
