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What’s In A Name: Traditional IRA or Roth IRA?

April 5, 2012

Benjamin Franklin once said, “nothing can be said to be certain, except death and taxes”.  While taxes are indeed a certainty, an Individual Retirement Account (IRA) offers a great way to help manage your tax burden.  The two most popular, most often discussed, and most often misunderstood types of IRAs are the “Traditional IRA” and the “Roth IRA”.

At a VERY BASIC level, the difference between a Traditional IRA and a Roth is that a Traditional IRA is tax deferred (you pay taxes when you withdraw) and a Roth IRA is tax exempt (you invest with money that has already been taxed).  Note that there are many variables, exceptions and considerations for each type of account, but in its most straightforward form the difference between Deferred and Exempt is important. Which is better?  It all depends on your personal situation.

Some very basic differences between the two plans include:

  1. Tax Deferred or Tax Exempt
  2. Eligibility Age
  3. Eligibility Limit
  4. Contribution Age Limits
  5. Contribution Dollar Limits
  6. Withdrawal Flexibility
  7. Withdrawal Penalties
  8. Minimum Required Distributions

One more consideration; since not everyone qualifies for a Roth IRA, in some cases there is no decision.  According to the Internal Revenue Service, for 2011 an individual with a modified gross income of more than $107,000 or married couples filing joint tax returns with a combined modified gross income of more than $169,00 are ineligible.

Most of us do not own a magic crystal ball, so the inability to see into our personal future, that of the IRS tax code, or that of the nation’s economic/tax environment makes a definitive choice impossible.  However, by outlining your retirement goals and reviewing retirement strategies every one to two years, or when there are major life-changing events, it may be possible to allocate retirement savings between both types of accounts.

Remember, The Avanti Reader, its parent company, associates, agents and representatives cannot give legal or tax advice. Making effective financial decisions requires a solid understanding of tax rules and regulations that are complex and subject to change. Always seek qualified professional assistance from your attorney or tax advisor.

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