Roth IRA accounts are powerful and flexible financial planning tools, but they are also complicated. Many people are not familiar with all aspects of these accounts. Here are nine facts about Roth IRA accounts that may surprise you and affect your retirement planning decisions.
Using Roth IRA Funds as Emergency Funds
Contributions to a Roth IRA are not tax-deductible. The benefit of this is that you can withdraw your contributions at any time, for any reason, and there will be no taxes or penalties. With this type of liquidity, a Roth IRA can also serve as your emergency fund.
Some People Can Use a Non-Deductible IRA to Fund a Roth Account
You cannot contribute to a Roth IRA if you earn too much money – or can you? Some people with all their retirement funds in qualified retirement accounts can contribute to a non-deductible IRA each year and then convert that to a Roth account, thus funding a Roth IRA annually. This is sometimes referred to as the “backdoor Roth.”
You Can Convert After-Tax 401(k) Funds to a Roth IRA
Many employer plans allow you to make after-tax contributions. These after-tax contributions can be directly converted to a Roth IRA upon retirement. No investment earnings on after-tax contributions can go into the Roth account, but the amounts you contributed can.
Roth IRAs Have No Required Minimum Distributions (RMDs)
One of the great things about Roth IRAs is that, unlike traditional IRAs, there is no age at which you must start taking withdrawals. This means there is no tax bomb waiting for you.
You Can Contribute to Both a SIMPLE IRA and a Roth IRA
You can contribute to a Roth IRA as well as a SIMPLE IRA as long as your adjusted gross income (AGI) is below the Roth IRA contribution limit, increasing the amounts you save for retirement. Contributions to a SIMPLE IRA are tax-deductible, while Roth contributions are not.
Your Business Plan May Allow Contributions to a Roth IRA
Many 401(k) plans offer the ability to contribute to Roth IRAs. This is known as a “designated Roth account.” Check with your employer to see if their plan allows you to choose the type of contributions you want to make.
Age is Not the Biggest Factor
Conventional wisdom says the younger you are, the more time your money has to grow tax-free in a Roth account. While it’s true that more time makes Roth IRAs better, age is not the primary factor to consider when determining whether to fund a traditional IRA or a Roth IRA. The primary factor is your tax differences, whether your current tax rate is now or your expected tax rate during retirement.
You May Be Able to Contribute to a Spousal Roth IRA
You can contribute to an IRA on behalf of your spouse even if they do not have earned income, as long as you have earned income. This is called a “spousal IRA contribution.” Many couples can double their tax-advantaged retirement savings by taking advantage of this.
Roth IRA Conversion Calculators Miss Some Things
You can convert traditional IRA or 401(k) funds to a Roth IRA. Many online professional calculators project the results of such conversions to help you see if it makes sense for you. However, there are many things these online calculators for Roth conversions can miss. They do not account for the impact of required withdrawals in the future and how that affects taxes on your Social Security benefits. A Roth account can help mitigate that impact. When you consider everything, Roth conversions can be more beneficial in many cases than calculators may suggest.
Questions
Frequently Asked Questions (FAQs)
Is there a limit to the number of Roth IRA accounts I can have?
You can open as many accounts and account types as you want, but the amount you can contribute (in total) is still limited by the annual cap imposed by the Internal Revenue Service (IRS).
Should I open a Roth IRA or a traditional IRA?
The best type of IRA for one person may not be the best for another, as each type has unique features and benefits. Younger people typically have more time for their money to grow tax-free in a Roth account. You might also consider your current income tax rate and potential future tax rate during retirement to help you make your decision. In comparison, contributions to a traditional IRA are tax-deductible, but withdrawals will be taxed as income later. You’ll want to choose the account that has the optimal tax treatment for your situation.
What should I do if I contributed too much to my Roth IRA?
The IRS sets annual limits for contributions to a Roth IRA and imposes a 6% tax penalty on excess contributions. The limit was $6,000 for individuals under 50 years old in 2022, with an additional $1,000 contribution allowed for those older than that. This increased to $6,500 and $7,500 respectively in 2023. You must withdraw the excess funds above these limits by the tax return due date to avoid paying the penalty.
Source: https://www.thebalancemoney.com/surprising-roth-ira-facts-2388898
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