This type of IRA allows for after-tax contributions with the potential for tax-free income in retirement.
The Roth individual retirement account (IRA) was created through the Taxpayer Relief Act of 1997 to provide an alternative to making non-deductible contributions to traditional IRAs. The Roth IRA allows for after-tax contributions with the potential for tax-free income in retirement.
Roth IRA income limits
You can contribute to a Roth IRA as long as you (or your spouse) have taxable compensation. How much you can contribute depends on your modified adjusted gross income (MAGI).
A "full contribution" for 2019 and 2020 is $6,000. And if you're 50 or older, you can contribute an additional $1,000. This is called a "catch-up" contribution. If you qualify for a partial contribution, your financial advisor can help you determine how much you can contribute.
If you aren't eligible to make a contribution at all, a Roth IRA isn't out of the question. You may still be able to take advantage of tax-free income in retirement with a Roth conversion.
Roth IRA contribution limits
The amount of money you can contribute to a Roth IRA is based on your modified adjusted gross income (MAGI) and your tax return filing status. Those filing individual tax returns earning less than $124,000 in 2020 and less than $125,000 in 2021 can contribute the full amount or $6,000; those earning $124,000-$138,999 in 2020 and $125,000-$139,999 in 2021 can contribute a partial amount; and those earning more than $139,000 in 2020 and more than $140,000 in 2021, none.
Investors who are married and filing joint returns with earnings less than $196,000 in 2020 and $198,000 in 2021 can contribute the full amount or $6,000; those earning between $196,000 and $205,999 in 2020 and $198,000 and $207,999 in 2021 can contribute a partial amount; and those earning more than $206,000 in 2020 and more than $208,000 in 2021 aren't eligible to contribute.
In both 2020 and 2021, if you're married and filing separate returns and earn $1-$9,999, you can contribute a partial amount, and aren't eligible to contribute if you're earning $10,000 or more.
Roth IRA withdrawal rules
You're generally not taxed or penalized when you withdraw your Roth IRA contributions and earnings. However, if your Roth IRA account isn't at least 5 years old or if you're not yet 59½, the earnings portion of the withdrawal may be subject to taxes and a 10% penalty.
And unlike with Traditional IRAs, the IRS doesn't require the original account holder of a Roth to take any required minimum distributions (RMDs) when they reach age 72. You control when you want to withdraw your money. If you don't need the money in your Roth, you can leave it alone and it may continue to be tax-free – as will any potential growth.
How to invest a Roth IRA
With a Roth IRA account, you can choose from a variety of investments – stocks, bonds, certificates of deposit (CDs), mutual funds, ETFs and money market funds. This variety gives you the opportunity to diversify your savings with an appropriate investment mix. Edward Jones' Research department carefully reviews thousands of investment options and selects stocks, bonds and mutual funds based on several characteristics. Together with your Edward Jones financial advisor, you can select the right investments for your Roth IRA based on your retirement goals and risk tolerance.
401(k) vs. Roth IRA
A 401(k) plan is a profit-sharing plan designed to allow employees to defer their salary for retirement savings. Employer matching programs within 401(k) plans usually provide a strong incentive for employee participation.
Both 401(k)s and Roth IRAs have certain tax benefits. Because 401(k) contributions are pre-tax, they can reduce the tax burden for the employer and employee. Roth IRAs are funded by the individual with after-tax dollars. Generally, you don't pay taxes on Roth IRA withdrawals. Additionally, if allowed by your 401(k) plan, employees may be able to make a Roth IRA contribution.
How to open a Roth IRA
If you're considering opening a Roth IRA, we invite you to meet with one of our financial advisors. Our financial advisors will talk with you about all your retirement options and can design a personalized retirement strategy based on your investment goals.