In this video I try to give a very simple breakdown of the core differences between IRA types. This style of video is new to me, so I do apologize if it is not 100% clear! Please feel free to ask for clarification or any questions in the comments below. I will be happy to help answer as best I can!
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This channel does NOT provide financial advice. Thoughts and opinions only.
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Traditional IRA Vs ROTH IRA: A Simple Comparison
When it comes to planning for retirement, individual retirement accounts (IRAs) have become increasingly popular among investors. These accounts offer tax advantages and a variety of investment options to help you grow your funds over time. However, there are two primary types of IRAs: Traditional and ROTH IRAs. Understanding the differences between the two can help you determine which one is best suited for your financial goals.
1. Contributions and Taxes:
– Traditional IRA: Contributions are tax-deductible, meaning that the amount you contribute to your traditional IRA reduces your taxable income for that year. However, when you eventually make withdrawals during retirement, you will pay taxes based on your current income tax rate.
– ROTH IRA: Contributions to a ROTH IRA are made with after-tax dollars, meaning that you pay taxes on the money before it goes into the account. However, when you make withdrawals during retirement, these funds are typically tax-free, including any gains your investments may have earned.
2. Income Limits:
– Traditional IRA: There are no income limits for contributing to a traditional IRA. However, if you or your spouse have access to an employer-sponsored retirement plan such as a 401(k), there may be income limits above which your traditional IRA contributions will not be tax-deductible.
– ROTH IRA: Contributions to a ROTH IRA have income limits. If your modified adjusted gross income (MAGI) exceeds a certain threshold, you may not be eligible to contribute directly to a ROTH IRA. However, there are options like a backdoor ROTH IRA that can still allow high-income earners to contribute.
3. Age Restrictions:
– Traditional IRA: Traditional IRAs do not have age restrictions for contributing, but they do have age requirements for withdrawals. You must start taking Required Minimum Distributions (RMDs) from your traditional IRA at age 72.
– ROTH IRA: There are no age restrictions for contributing to or withdrawing from a ROTH IRA. You can continue to contribute to your ROTH IRA as long as you have earned income.
4. Future Tax Rates:
– Traditional IRA: Traditional IRA withdrawals are taxed at your ordinary income tax rate at the time of withdrawal. If you anticipate being in a lower tax bracket during retirement, a traditional IRA may be advantageous.
– ROTH IRA: ROTH IRA withdrawals are generally tax-free. If you anticipate being in a higher tax bracket during retirement, a ROTH IRA may be more beneficial since you have already paid taxes on your contributions.
5. Estate Planning:
– Traditional IRA: With a traditional IRA, you must start taking RMDs at age 72, which reduces the amount that can be passed down through your estate. Additionally, beneficiaries who inherit a traditional IRA may have to pay taxes on the distributions they receive.
– ROTH IRA: ROTH IRAs do not require RMDs during your lifetime, allowing the funds to grow tax-free for as long as you want. Additionally, qualified distributions from a ROTH IRA to beneficiaries are generally tax-free.
In summary, the choice between a Traditional and ROTH IRA depends on several factors, including your current and future tax situation, income level, age, and estate planning goals. It’s essential to assess your unique circumstances carefully and, if needed, consult with a financial advisor to determine which option aligns best with your long-term retirement objectives. Remember, individual circumstances may vary, and it’s crucial to make an informed decision that suits your financial needs.
The $5,000 Roth IRA balance used requires [$5,000 / 0.80 =] $6,260 of pretax income which results in $93,750 pretax income or ($93.750* 0.80=) $75,000 spendable income as shown YT video above. If instead $6,000 of pretax income was used to fund Roth IRA there'd be ($6,000*0.80=) $4,800 Roth IRA balance which results in $75,200 spendable income which is identical to traditional IRA investor in this YT video.
$100k = $6,000 + $94,000
$100k = $6,000 traditional IRA + $18,800 tax + $75,200 spendable income
$100k = $4,800 Roth IRA + $1,200 tax + $18,800 tax + $75,200 spendable income
A $6,000 * 40.9955 = $245,973.00
B $5,000 * 40.9955 = $204,977.50
C $4,800 * 40.9955 = $196,778.40
Note that there is 20% difference between A & C
@ 4:40 If traditional 401(k) and Roth401(k) employees contribute enough to receive the company match, the match cancels out for purposes of comparing t-401(k) and Roth 401(k). Saying Roth 401(k) employee "not putting as much in" so doesn't receive match just sounds silly.
@ 1:29 Several math mistakes and unbalanced comparison between traditional IRA and Roth IRA. No explanation why Roth IRA contribution is $5,000 instead of $4,800 which should been used for a proper balanced comparison.
Using $4,800 cleans up this chart: as it leaves identical $75,200 balance for both investors and 20% difference between 20 year traditional IRA and Roth IRA – displayed balances is does not represent 20% difference. @ 2:20 " about 20% difference" is inelegant.
Great video! Made it super simple to understand the differences and most people don’t know the difference and should take into account the different types of IRAs they have available. Great information provided
NOT FINANCIAL ADVICE: I recommend to most people a ROTH first because tax rates are susceptible to change and you don’t wanna have to worry about taxes when you’re in your retirement and every dollar counts. And after they max out the ROTH, if they’re lucky enough to be in a position where they have extra to contribute in a traditional that’s the route then I recommend afterwards. Again not financial advice
You should teach at MSU
Thanks, Tetron. This is a very informative video on a very important top.