The Best IRA Investment - Roth vs. Traditional

Best IRA Investment

Is the best IRA investment debate settled? The term IRA spells stability for most of us.

But you will probably agree with me when I say that the best IRA investment is the one that fits your individual needs.

For instance, my financial goals would certainly be different from yours, so the same IRA is unlikely to be the best IRA investment for both of us.

Let me lead you through a quick recap of the types of IRAs first. There are four types of IRAs, or Individual Retirement Accounts, to examine when we’re talking about retirement:

  • Traditional IRA
  • Simple IRA
  • Roth IRA

Your traditional IRA lets you contribute $5000 annually to your retirement fund. Depending on your adjusted gross income, or AGI, and whether you are covered by an employer-supported retirement plan, some or all of the contribution is tax-deductible.

The SEP-IRA, or Simplified Employee Pension IRA, is an employer-initiated plan, to which you can contribute up to 15 percent of your income. The Simple IRA is controlled and funded by the employer, and, as the employee, you can also contribute. Your combined contribution cannot exceed $ 6500.

A Roth IRA contribution is not tax-deductible, unlike that of a traditional IRA. 

There is another type of IRA used for educational purposes. It is now called an ESA, or Educational Savings Account. 

As I said earlier, several factors come into the picture when deciding which is the best IRA. If you have your own business, the SEP-IRA and Simple IRA could work ideally for you and your employees. If you are employed and wish to save for retirement, you would have to decide between a traditional IRA and Roth IRA.

Traditional vs. Roth IRA

My first thought with this kind of question is which of these would get me to my financial goals faster? Which one is better as an investment for ME? The basic difference between a Roth IRA and traditional IRA is in the way they are taxed. While a Roth IRA makes you pay tax upfront and saves you tax in the future, the traditional IRA lets you save tax-free and makes you pay tax only when you withdraw the money. Now, will this affect the interest you earn? Given the same market conditions, which is more profitable? After all – it is the WIIFM – What’s-In-It-For-Me - factor that matters. Let’s look at an example here.

I have $10,000 to deposit into my account. I can also deposit $400 every month for the next 30 years while the account continues to grow at ten percent annually. My first consideration is Roth IRAs. If my money is taxed at 28 percent, I will be able to deposit only $7200 (after taxes) and subsequently, $288 each month. Thirty years later at ten percent growth, I would have $724,471 when I retire.

What if I invested in a traditional IRA instead? I don’t pay taxes before I deposit my money, and for the same period of 30 years at the same interest rate, I would have $1,006,210 to retire with! But hang on! Suppose I then withdraw the money and have to pay 28 percent of it in taxes. I’d have the same amount - $724,471 - as in the Roth IRA!

How do I decide which is the best IRA investment for me?  

I would think that a traditional IRA could be a good option for people who expect to be in a lower income tax bracket by the time they retire – for instance if you plan to be in the 15 percent bracket instead of 28 percent.

So what is the big buzz about Roth IRAs?

If you expect to be in a much higher tax bracket when you retire, a Roth IRA is the best IRA investment's for you.

This holds true especially if you are setting up a business and expect to multiply your income. Apart from tax-free growth, a Roth IRA's withdrawal rules are more flexible.

There's no penalty on withdrawal of contributions.

When you are 59.5 years old, you can also withdraw your gains, without tax and penalty.

If you are considering a traditional IRA-to-Roth rollover, you will need to look at the implications more in-depth to see whether you get any benefits from it.

As tax-advantaged savings plans, the best IRA is the one that suits your life situation.

Return from Best IRA investment to IRA



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