Why Should Young People Invest in a Roth IRA?
(March 24th, 2008)
If you follow the
Roth IRA Rules, any contributions you make towards a Roth IRA will
grow tax-free for years to come, and with the power of compound interest,
your money will grow at even a faster pace! Upon retirement,
you will NOT have to pay taxes on your Roth IRA earnings as well.
Furthermore, Roth IRAs allow you to invest in many different investments
such as Bonds, Stocks, Real Estate, Derivatives, Mutual Funds and
more.
A Roth IRA account
can be opened until April 17th of the current tax year, and contributions
can made starting from the previous year. The current maximum
Roth IRA limit for 2006 is $4000. From 2008, the maximum Roth IRA
contribution limit will rise to $5000.
Compound Interest &
Roth IRA?
If a young saver
at the age of 25 invests $4000 a year into a Roth IRA and earns 8%
a year on his investment, he will have a huge nest egg of $1.1 million
upon retirement (at the age of 65). What's more, none
of this $1.1 million nest egg is taxable upon retirement!
Consider a contra-example
scenario. If that same 25 year old young saver invests $4000 a year
into a regular taxable savings account earning 8% interest, he would
grow a nest egg of $800,000 upon retirement (at the age of 65) - assuming
a 15% tax rate.
Characteristics of a Roth
IRA Account
-
Distributions
or Withdrawals on your contributions from a Roth IRA account can
be taken out at any time without incurring the 10% early withdrawal
penalty fee in 401k accounts, as well as no taxes payable.
Note: A Roth IRA is meant for saving towards retirement
and withdrawals from your retirement savings account are always
discouraged (unless for emergencies and unexpected circumstances).
Note: Also note that withdrawals from your Contributions
are non taxable. However, any earnings you have
made on those contributions (such as the 8% interest earnings) is
taxable at your local state & federal taxes and subject to 10%
early withdrawal penalty fee (if withdrawn before the age of 59
and 1/2).
- The Internal Revenue
Service (IRS) allows you to withdraw upto $10,000 tax-free from your
Roth IRA account to purchase your first home (primary residence) and
achieve your American Dream.
However, in order to be eligible for this provision, you must have
had your Roth IRA account open for atleast 5 years. Also, the $10,000
provision is meant per person. If you are a couple (have a spouse),
you are eligible to withdraw $20,000.
- For example, if
you open a Roth IRA before April 17th of the year 2006, you will have
to wait till April 17th of 2011 before you are eligible for the $10,000
tax-free withdrawal of $10,000.
|
Latest
Roth IRA Articles |
An
Introduction to the Roth IRA - After-Tax Contributions, Advantages/Disadvantages,
Contribution Limits, History |
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What
Is an IRA (Individual Retirement Account?) - Introduction, Contribution
Limits, Early Withdrawal Penalties, Advantages/Disadvantages |
|
Making
Roth IRA Contributions - Single, Head of Household and Married Filing
Joint - Eligibility & Examples |
|
Roth
IRA Conversions - Eligibility, Types of Conversions and Adjusted Gross
Income Limits |
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Taking
Qualified Roth IRA Distributions - Eligibility & Examples |
|
Differences
between Traditional IRA & Roth IRA - 8 Exceptions to the 10% Early
Withdrawal Penalty |
Roth IRA Contribution Limits |
| Year |
Regular Contributions |
Catch Up Contributions |
| 2001 |
$2000 |
$0 |
| 2002 |
$3000 |
$500 |
| 2003 |
$3000 |
$500 |
| 2004 |
$3000 |
$500 |
| 2005 |
$4000 |
$500 |
| 2006 |
$4000 |
$1000 |
| 2007 |
$4000 |
$1000 |
| 2008 |
$5000 |
$1000 |
| 2009 |
$5500 |
$1000 |
|
Modified Adjusted Gross Income Limits
|
| Year |
Filing as Single |
Filing as Joint |
| 2001 |
$33,000 - $43,000 |
$53,000 - $63,000 |
| 2002 |
$34,000 - $44,000 |
$54,000 - $64,000 |
| 2003 |
$40,000 - $50,000 |
$60,000 - $70,000 |
| 2004 |
$45,000 - $55,000 |
$65,000 - $75,000 |
| 2005 |
$50,000 - $60,000 |
$70,000 - $80,000 |
| 2006 |
$50,000 - $60,000 |
$75,000 - $85,000 |
| 2007 |
$50,000 - $60,000 |
$80,000 - $100,000 |
|
Roth IRA Facts |
In Traditional IRA, the contributions you make towards the account
are not taxed. Whatever capital gains & earnings you make on
your IRA are also not taxed up until retirement, when you withdraw
money from your account. For example, imagine you made $50,000 this
year and contributed $5000 to a traditional IRA. You will be taxed
on $50,000 - $5000 = $45,000. Furthermore, your $5000 contribution
will grow tax-deferred for many years, until you retire and decide
to withdraw it.
Any 'qualified distributions'
you take from a Roth IRA will NOT be included in your taxable income,
hence making you exempt from paying taxes. You won't have to pay
taxes on the original principal you contributed nor any taxes on
capital gains & earnings you have accumulated. In order for
the distribution to be classified as 'qualified', it must be taken
under 1 of the following circumstances:
- the Roth IRA
investor must be 59 and 1/2 years or older at the time of the distribution
- the Roth IRA investor becomes disabled at the time of taking the
distributions
- the Roth IRA investor dies and his/her beneficiary receives the
assets contained in the plan
- the distributions taken from the Roth IRA will be used in the
purchase or building of a new home for the Roth IRA holder or qualified
family member. This is limited to $10,000 per person per lifetime.
Qualified family members include:
--> the Roth IRA investor
--> the Roth IRA investor's spouse
--> children of the Roth IRA investor
--> grandchildren of the Roth IRA investor
--> parent or ancestor of the Roth IRA investor
The law states that if your adjusted gross
income (AGI) is greater than $100,000, you cannot convert from a
traditional IRA to a Roth IRA. This law applies to both singles,
married filing joint & head of household filers. Note that if
you are filing a married-filing-separate tax return, you are not
eligible to convert a traditional IRA to a Roth IRA at all, no matter
what your adjusted gross income is. |
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