Traditional vs. Roth IRAs: What's the Difference?

Minute Read

It's important to make sure you have the right type of Individual Retirement Account (IRA) now to help you meet your retirement goals. There are benefits to having a Traditional IRA and a Roth IRA, but they can be confusing. We broke down the differences between the two and the unique benefits of each to ensure you can make an informed decision.

What's a Traditional IRA?

A Traditional IRA is an individual retirement account that allows you to contribute pre-tax dollars, meaning the money you invest will not be taxed until you withdraw it during retirement. You can have a Traditional IRA even if your employer offers their own sponsored plan, like a 401k. Since it is not necessarily an employer-sponsored plan, you can have it regardless of where you work. However, that also means there is no employer match. Any money put into this type of account is your contribution.

What are the benefits of having a Traditional IRA?

A Traditional IRA is suitable for anyone who expects to be in the same or lower tax bracket when they start withdrawing. Here are some of the main benefits of a Traditional IRA:

• Tax-deductible contributions. Contributions to a Traditional IRA may be tax-deductible and could reduce your annual taxable income.
• Tax-deferred growth. Since these investments are not taxed up front, you won't pay taxes on the earnings until you start making withdrawals in retirement. This allows the money to compound more effectively over time.
• Flexibility. Since these accounts aren't usually employer-sponsored, you can use the money early if needed. You can use the money for college expenses or toward buying your first home without paying an early distribution penalty. Keep in mind that you will have to pay taxes at the time of distribution.

What's a Roth IRA?

Roth IRAs are individual retirement accounts you contribute to with after-tax dollars or income you've already paid taxes on. Your savings can grow and be withdrawn in retirement tax-free.

Roth IRAs are a useful retirement savings tool that can help you set money aside for potential growth. In addition to potentially boosting your retirement savings, they can provide greater flexibility for you and your heirs because of their unique tax rules. The trade-off is that you won't receive any tax benefits up front, but you can look forward to potential tax savings in retirement.

Fun fact: the Roth IRA was named after Senator William V. Roth, Jr. From Delaware, who helped champion the legislation that created them in 1997.

What are the benefits of having a Roth IRA?

The Roth IRA is an excellent method to maximize your retirement savings because of special tax incentives. Because the income you contribute to a Roth IRA account is taxed upfront, there's no immediate tax break. However, the money you contribute and any potential earnings you make on that money can grow tax-free. This means you won't pay taxes when you withdraw the contributions or the earnings during retirement.

Though Roth IRAs don't offer a tax deduction upfront, like the Traditional IRA, they do provide other benefits beyond tax-free growth and withdrawals:

• No age restrictions. You can contribute at any age if you have earned income and your modified adjusted gross income (MAGI) falls within the IRS limits.
• No required minimum distributions (RMDs). Unlike most retirement savings accounts, Roth IRAs are not subject to required minimum distributions (RMDs)—withdrawals the IRS requires you to take each year, starting at age 73.
• No taxes for your heirs. If you pass your Roth IRA onto your heirs, they can generally withdraw the money tax-free if they follow the IRS distribution rules.

For 2024 contributions, if you are under age 50, you can contribute $7,000 annually. If you are 50 or older, you can contribute $8,000 annually. Contribution limits are subject to change each year. Be sure to do your research and make a choice based on what is best for your current financial situation. No matter which type of account you choose, the most important step is to start saving for your retirement.

This content is intended to provide general information and shouldn't be considered legal, tax or financial advice. Please consult a tax or financial professional for more information.