Meet Your Friend, the Roth IRA

I’ve been investing in my Roth IRA since I was 17.  I had landed my first job as a bagger at a grocery store and held multiple other jobs through college.  Each year, I diligently tucked away money that will be able to grow until age 60, which is over 40 years.  At certain points, my effective tax rate was essentially 0%, which is the ideal time to contribute.  Every penny withdrawn will be tax free, and $5,500 with 40 years to grow will be worth over $100,000* tax-free dollars without adding a penny more!  If you’re still young and paying minimal taxes, open a Roth IRA.

Age Dollar Amount After Initial One-Time $5,500 Investment

17 $5,500

25 $9,450 $5,500

30 $13,254 $7,714 $5,500

35 $18,590 $10,819 $7,714 $5,500

40 $26,073 $15,175 $10,819 $7,714

50 $51,289 $29,851 $21,283 $15,175

60 $100,894 $58,721 $41,867 $29,851

*Assuming a one-time contribution of $5,500 and a simple 7% rate of annual growth.  That’s $100,000 tax free at age 60!  Woohoo!

What is a Roth IRA?

It’s a retirement account where you pay the taxes on the money that goes in but then are able to take all withdrawals tax-free (as long as the withdrawal is only on the principal portion of the account or the owner is at least 59½ years old).

Remember: As your tax rate goes up during your working career, it often becomes more beneficial to contribute to a traditional IRA.

Who qualifies for a Roth IRA?

In 2018, any singles with a modified adjusted gross income less than $120,000 or any married filing jointly couples with a modified adjusted gross income less than $189,000 can contribute the full $5,500/year. Check the current IRA contribution limits.

Why would I want a Roth IRA?

If you think your taxes will be higher in retirement than they are now, start stashing money away in the Roth IRA so you can take withdrawals tax free.  It has a lot of time to grow as long as you start early.  The best time to do this is when you are still a student or in the early years of your career.  If you are currently in a higher tax bracket ($35k+ adjusted gross income if single or $75k+ adjusted gross income if married filing jointly) or if you do not expect to earn more in the future, you might be better off contributing to a traditional IRA and taking the tax deduction now or contributing part to a Roth IRA and part to a traditional IRA to diversify your tax risk.  Additionally, you should always contribute the minimum to a 401k to receive employer match first.  You should consult with your CPA before making any financial decisions.

There are some long term benefits as well.  Roth IRAs allow you to contribute at any age, but traditional IRAs do not allow contributions past 70 ½.  Roth IRAs also never require withdrawals, so you can leave it to grow tax free and get passed on to any heirs.  With a traditional IRA, you must start making RMDs (withdrawals, or “required minimum distributions”) at age 70 ½.

Oops!  I actually needed that money!  What now?

You can withdraw your contributions penalty-free at any time and for any reason.  For example, if you contribute $2,000 and it grows to $2,500, you can take out $2,000 without a penalty. However, you’ll be penalized if you withdraw the earnings before turning 59 ½, unless it’s for a qualifying reason.  Qualifying reasons include paying for college for you, your spouse, your children, or your grandchildren, a first-time home purchase, or certain emergencies.  Consult your CPA for any questions about your specific situation.

Where should I open my Roth IRA?

I have my Roth IRA with Fidelity and have had it there since I first opened it.  It’s currently invested in FUSVX (Fidelity 500 Index Premium Class, $10k minimum, .035%* expense ratio).  FUSEX is the investor class with a $2,500 minimum and .09%* expense ratio. I’m a huge advocate for index fund investing.  Target date funds are also a good choice. You can also open your account with Vanguard.  They have great funds and low expense ratios. *as of 11/9/2017.

If you can’t make the full minimum to invest right away, check your spending levels and just keep saving and contributing!  As long as you focus, you’ll get there soon!