What Is a Roth IRA – Benefits & Restrictions

RetirementPlanning your retirement is one of the most important decisions that you will ever make concerning your financial future. Many people have questions about the different types of retirement accounts available and which one is the right plan for them. Let’s take a look at one type of retirement account known as the Roth IRA. A Roth IRA is an individual retirement account which allows an individual to set aside a specified dollar amount of income after taxes. This tax-advantaged retirement account derives its name from United States Congressman William Victor Ross Jr., who was the legislative sponsor of the bill creating this plan.

A Roth IRA provides tax free growth of your money in lieu of getting a tax deduction. Think of a Roth IRA as an umbrella, and you can put almost anything that you want under it. A Roth IRA may be invested in stocks, bonds, mutual funds, certificates of deposits, and/or money market accounts. Individual retirement accounts can be set up at a bank, brokerage house or any financial institution.

Roth IRA Eligibility

Here are a few of the rules to be eligible to fully contribute to a Roth IRA:

  • If you are a single tax filer your modified adjusted gross income needs to be less than $105,000. Married tax filers need their income to be less than $167,000.
  • The maximum annual contribution is $5,000 per person. Married couples can contribute $10,000. If you are 50 or older you can contribute $6,000 per person annually due to a catch-up provision.
  • Your contributions can be withdrawn at any time and are not tax deductible because they are made in after tax dollars.

Roth IRA’s are an easy way of creating tax free income and growth for your retirement portfolio.  Let’s say you invested $5,000 annually over a 20 year period into a Roth IRA, and at the end of 20 years, your money grew to$500,000. You may have lost out on the tax deduction on the $100,000, but you do not have to pay any taxes on the $500,000 when you withdraw funds after age 59 and a half. This can add up to a substantial savings as your earnings increase.

Roth IRA Benefits

  • Tax Free Growth. Earnings are not subject to income tax as long as you have held the account for at least 5 years, and you are at least 59 1/2.
  • Easy Withdrawal Process. Direct contributions can be withdrawn at any time, tax free.
  • Multiple Retirement Accounts. A Roth IRA can be set up even if you have another retirement plan.
  • No minimum withdrawal requirements. There are no required minimum distributions as in a traditional IRA or 401(k).
  • Inheritance. Assets can be passed onto beneficiaries after death.

Roth IRA Restrictions

  • No Tax Deductions. Contributions are not tax deductible as they are in Traditional IRA’s and 401(k)’s.
  • Income limits on participation. You may not be eligible to enroll in a Roth IRA if your income is higher than the income limits.
  • Early Withdrawal Fees. There is a 10% early withdrawal fee if you withdraw money before 59 1/2 without a qualified reason (education expenses, first time home purchase, disability, medical expenses, death, health insurance, etc).

Final Word

Opening a Roth IRA is a great way of taking control of your financial future and a smart move for anyone that is eligible to open one.  How many of you already have a Roth IRA? If so, are you happy that you opened one?

(photo credit: thelastminute)

  • http://lifetuner.org Keith Morris

    Thanks, Mark! Don’t forget about Roth IRA conversions in 2010! This was a hot topic for discussion over at LifeTuner. Check out this page for additional thoughts:


    • Mark Riddix

      I checked out the page. Good insights!

      • Tjridenour

        my dad passed and he had a ira we got a letter in the mail he had it for 25 yr how much does it grow

  • http://www.yourfinances101.com/blog David/Yourfinances101

    If you qualify, the Roth IRA is one of the best retirement vehicles out there–by far.

    • Mark Riddix

      I think so too David.

  • http://wisefinish.com Wise Finish

    Great article about Roth IRAs – I would be interested to see them compared & contrasted with the Roth 401(k)

    • Mark Riddix

      Great idea! Look for that in the future.

  • http://thelastminuteblog.com Duncan

    Hi there,

    Thank you for for using my photograph in this post!

    Please attribute the photograph to Duncan Rawlinson and link to me @ http://www.TheLastMinuteBlog.com

    Thank you.

  • http://thelastminuteblog.com Duncan

    Hi there,

    Thank you for for using my photograph in this post.

    Please attribute the photograph to Duncan Rawlinson and link to me @ http://www.TheLastMinuteBlog.com

    Thank you!

    • Erik Folgate

      Hey duncan, taken care of, thanks!

  • http://blog.budgetpulse.com craig

    I have a Roth and maxed it out in my first year and plan to do the same in the second year. I really like it a lot and recommend it to people.

  • http://www.creditopia.com Ryan

    Having recently taken more control over my Roth IRA I’m taking action now to steer my investments personally vs. having to rely on a single retirement fund. I’m already seeing returns from my last position and will never go back to a single fund. THX..

    • Mark Riddix

      You’re welcome.

  • http://www.hervssmartmoney.blogspot.com Chris

    Great article. I wrote an article on my blog not too long ago comparing a Roth IRA to a 401k, and crunched some numbers as well. Give it a read and let me know what you think.

    • Mark Riddix

      I will Chris.

  • http://madsaver.com Mac

    I’ve heard nothing but good things about having a Roth IRA. Take the money out tax-free? Sign me up! Now just to find some money to add to my poorly funded Roth. But thanks for the reminder, I’ll have to reevalute my budget for ’10.

  • Mike

    Great Article, My question is if I have $500000 in my Roth and I pass away and I leave it to my children and Grand Children. What are the tax implications for them???

  • Lbwetherington

    Mark. I’m confused when I read under the benefits and restrictions. If I put money in a Roth IRA, can I withdraw the money that I put in only without penalty or fees, or taxes? I realize if I withdraw the interest earned I would be subject to some sort of cost. I was thinking of using the money I put in to start a business that could be great income for my retirement years.

  • http://www.rothira.org/ Scott Grinas

    Mark, great points here but it would have also been nice if you could have commented on self directed roth ira’s and how some people are using them to purchase real estate. I realize this isn’t a common practice but none the less it seems some savvy investors are doing it?

  • Mike

    Please put dates on your articles. Retirement and tax laws change all the time.

  • SilverStreak

    Mark, I have a question for you. I hope you can help me. I am 60, will be 61 yrs old in June. My husband is 63 and on disability. I am unemployed. We went through a bankruptcy in 2007.
    We have no home. All we own is a car. My husband’s income is about $1500 a month and I get a small $344 pension from Michigan Public Schools. I do not have any other income other than substitute teaching 2 or 3 times a month, $100 per day.

    As of June I will have access to $14,000 annuity from Nationwide. If you were me, what would you do with that money? Roth IRA? Start one for our grandchildren? Savings bonds? Gold?
    We would like it to earn as much interest as possible but, considering our living situation, we may need it if our car dies or if one of us has extensive medical bills or….?
    Right now we trade our landlord handyman type work for rent but that won’t go on forever either.
    We have had no real home since 2008 when walked away from our home in Arizona.

    Do you have any advice for us?

  • http://www.retiresimply.com/ Roth IRA

    I just stumbled across this thread. I’m not sure when it was posted but I assume it has been awhile judging by the income limits posted. The Roth IRA income limits for 2011 were $106,999 for single filers and $168,999 for married filers. Above those amounts, the amount you can contribute is proportionately reduced.

    @Lbwetherington – Yes, you can withdraw your contributions penalty free. Your deposits to a Roth IRA are after-tax and thus you have more flexibility.

    @SilverStreak – I’ll wait for Mark to answer this question fully since it that is who you asked. I’d just like to add that although your situation is not ideal, remember that the number one goal at your age is capital preservation first. With that said, you never want to take on more risk in your situation. You can however, look at investments like investment grade & high yield mutual funds. These are aggregate corporate bond funds. Some asset classes have had much less risk, and much greater returns, than the stock market over the last 20 years. Of course, you’d get the same liquidity as with a normal mutual fund. Other than that, look at diversified products.

    Roth IRAs may not be much of an option for you. It appears that your earned income is from your teaching activity only? Pension and disability income will generally not count toward the Roth IRA income requirement. You would only be able to contribute the amount of your teaching income.

  • Tishfaber

    Er, how did the Roth get named after a guy named Ross? Did he have a lisp…?!

  • http://issuu.com/treydowner/docs/currency_forward_contract_-_a_monetary_safeguard_f Ariel Monde

    I make too much to put into a Roth, so I contribute to a non-deductible IRA and converted it to a Roth…congress began allowing this in 2010 and until they act, we can continue to convert to a Roth.

  • http://www.coralseamercantile.com.au Coral Mercintile

    Roth has an extra advantage if you think your taxes will probably rise in the future, since you’re paying now rather than later. (Of course that’s a disadvantage if you think your taxes will fall. Note that your own tax bracket might be lower in retirement than it is while you’re working, even if tax rates in general go up.)

  • http://www.fifocapitalcoralsea.com.au/ fifocoralsea

    If you are able to put 10% into a traditional 401k I think you may find it difficult to put 10% of after tax money into a Roth 401k. What if the comparison is done differently showing you can afford to put 10% in pretax now but only 8% into a Roth? Even though you are taxed more when you withdraw doesn’t the lower amount put in and compounded over time at least equal that difference?

    This is what confuses me most about this.