A new type of tax-advantaged retirement savings account, the Roth
IRA, may allow you to make an annual contribution of up to $2,000.
Contributions are not tax deductible, but investment earnings grow
tax-deferred and qualifying withdrawals may be taken tax-free. In
addition to saving and investing for retirement, the Roth IRA can help
you plan for other important financial goals, including a first home,
higher-education expenses and estate planning.
The Roth IRA offers several important benefits:
Tax-deferred growth. Earnings and gains on invested
contributions grow tax- deferred, which can produce a greater
total return over time.
Tax-free withdrawals. Neither contributions nor earnings are
subject to federal income tax if withdrawn after age 59 ½, or in
the event of permanent disability or death. Tax-free treatment
of earnings can leave you with substantially more in after-tax
assets. Ask your professional tax advisor if your state also
allows tax-free withdrawals of Roth IRA assets.
Penalty-free early withdrawals.You may be eligible to
withdraw assets to help pay for a first home or
higher-education expenses without paying a 10%
early-withdrawal penalty. Your distribution to help pay for a
first home may also be tax-free if you have held your Roth
IRA for at least five years.
Tax advantages for older investors. Unlike the traditional
IRA, contributions to a Roth IRA can be made after age 70 ½
provided you can have earned income. There also are no
mandatory distribution requirements during your lifetime, so
you keep your tax-free growth intact.
Are You Eligible?
You may be eligible to make an annual contribution of up to $2,000
(or the full amount of your earned income, if less) if you are:
Single—and your modified adjusted gross income (MAGI) is
below $95,000.
Married—filing a joint return and have MAGI below
$150,000.
Note: Married individuals filing separate returns, with MAGI above
$10,000, are not eligible to participate in the Roth IRA.
If you meet the income limits, you can contribute even if you:
Participate in an employer-sponsored retirement plan.
Make a partial contribution to a traditional IRA in the same
year, as long as your total IRA contributions do not exceed the
lesser of your earned income or $2,000.
Roth IRA or Traditional IRA: What’s the Difference?
The traditional IRA may give you a current-year tax deduction, but
deductible contributions and earnings are taxed when you take
distributions. Your Roth IRA contributions are taxed up front, but you
do not pay federal income taxes on contributions or earnings when
you take qualifying distributions.
Converting a Traditional IRA to a Roth IRA
You may be eligible to convert some or all of your existing traditional
IRA assets into a Roth IRA without paying the early-withdrawal
penalty typically imposed on withdrawals you make before age 59½.
However, you will owe income taxes on the taxable portion of the
assets you convert. To be eligible for conversion, your modified
adjusted gross income cannot exceed $100,000 (applies to individual
and joint filers alike). You also cannot be married filing a separate tax
return. For conversions made in 1998, you can choose to either
declare equal portions of the conversion as income over four years, or
report all income from the conversion event on your 1998 return.
In addition, should your modified adjusted gross income unexpectedly
exceed the established income limits for converting or contributing to
a Roth IRA, you can reverse or adjust a Roth IRA conversion or
contribution—penalty-free—by your tax filing deadline.
Which Way for Your IRA?
If you don't qualify for a deductible IRA, but you do qualify for a Roth
IRA contribution, the answer is simple: fund the Roth. Likewise, if a
nondeductible traditional IRA is your only choice, make sure you take
advantage of the tax-deferred growth. However, if you are eligible
for either a deductible traditional IRA or a Roth IRA, deciding which
one is right for you—or if you should convert your traditional IRA to a
Roth IRA—will depend on your financial situation and goals.
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