[UPDATED on April 7th, 2020].
Are you confident in saving for retirement? The reason that retirement is so daunting is that there are so many options that make choosing overwhelming.
What most people will tell you is that the best thing to do is match your employer contribution at your job. This means: contributing to your 401K or 403B up to the percentage that your job is contributing.
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So you have already maxed out your $19,000 limit in your 401K; You are finished investing for the year right?
While $19,000 is nothing to sneeze at, you will still be earning a surplus of cash after finishing your year of contributions. You COULD just stop investing for the year, but you would be missing out on a great opportunity to put an additional amount of money to work for you against inflation.
That is where the Roth IRA comes in.
What is a Roth IRA?
According to Money.CNN.com the Roth IRA is a retirement account that allows you to save money with already taxed income. Because you pay the taxes up front, you get the benefit of living off of this money tax free once you reach the age threshold for withdrawing funds from your account (59 ½ years old).
That is the main benefit of the Roth IRA. It functions off of the notion that you will retire within a higher tax bracket than you were when you were young and grinding. But your money was put to work and beating inflation for 1 to 2 decades!
It doesn’t get any easier to enroll than it is now, with the plethora of choices that we have in brokerage accounts. my favorite brokerage at the moment is M1 finance, because it gives you the ability to invest in fractional shares. You mean I can buy .1% of Amazon right now?!
And the best part of using M1 finance is that it is completely free, and can be set to auto invest for you. Talk about passive income!
Why choose the Roth IRA over the traditional IRA or standard brokerage account?
The main benefit that draws people into Roth contribution is future tax exemption. As I previously stated, You will not be taxed in the future for withdrawing your funds!
In a traditional Roth you can contribute money, but you may owe taxes at your current tax rate on the amount that you withdraw. There are ways that people work around this, but you do not have to worry about taxes with a Roth IRA.
With a traditional brokerage account, you are taxed the most. Taxes on earnings, from selling your appreciated stocks, taxes on your dividends that you earn from your favorite blue chips. Don’t get me started on REITS!
The taxes can really add up if you are not careful, and that is why a lot of people choose to collect REITS in the Roth IRA, you will not be taxed for those earned dividends within that account. How cool is that?
How does the Roth IRA really work?
Here is the general run-down of the Roth IRA according to The Vanguard Group:
- $6,000 yearly contribution limit.
- $7,000 yearly if you are 50 years or older.
The limit was increased from $5,500 in 2018 to $6,000 in 2019. This is a huge deal because it gives your money the potential to grow even faster.
One drawback is that there is a phase-out period once you begin to make a certain amount of money.
- $122,000 – $137,000 for a single contributor.
- $193,000 – $203000 for married contributors, filing jointly.
- $0 – 10,000 for married contributors, filing separately.
Knowing the rules of having a Roth IRA is crucial to a successful retirement planning period. Here are some things to keep in mind about your retirement account according to www.schwab.com:
If you are 59 years old or younger, and have had the account for less than 5 years:
- Withdrawal may be subject to taxes AND penalties, unless you are using the money (up to $10,000) for a first time house purchase.
- You are at least 59 ½ years old.
- You’re paying qualified education expenses.
- You become disabled.
- Paying for unreimbursed medical expenses, or health insurance if you are unemployed.
- The withdrawals are made in substantially equal periodic payments.
If you have had the account for more than 5 years your account will not be subject to being taxed under the same circumstances as noted above.
The main goal is to have the account and not withdraw until you are 59 ½ years old while having the account for at least 5 years. This will allow you to avoid the tax penalties of investing in a Roth IRA.
With so many options out there, what are your investment vehicles of choice? These are just some of the reasons why I believe that the Roth IRA is a powerful tool to use towards becoming financially comfortable in the future. For more on financial responsibility please check out THIS article, and THIS one too.
Thanks so much for reading!