Good day,
I am 26 years old and would like to start building up a retirement fund. From the little information I know, Roth IRA taxes you on the money you invest in it now, and when you take it out there will be no taxes, unlike the traditional.
So my question is, if I see myself making much more money later down the line and possibly being in a higher tax bracket, would it make more sense to invest in a Roth IRA? I’ve seen many posts and discussions claiming that it wouldn’t matter etc etc,.. instead of me coming out with more knowledge I am left very confused.
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Thank you so much for reading, and please write as much as you can. I want as much info as possible! Thank you in advance.
There is a good article in the wiki, but here is what I would say:
It depends based on how much money you plan on having in retirement. If you withdraw/use the same amount of money every year before and after retirement then it technically doesn’t matter assuming tax rates stay the same.
Most people have lower expenses in retirement so they will use less money and be in a lower tax bracket meaning traditional is better. A benefit of traditional is that you save money at your highest tax bracket, but when you withdraw you must fill up the lower tax brackets first therefore never getting taxed at your current rate.
If your work offers a 401k you probably are not eligible to deduct from a traditional IRA which is why most people use a Roth, because that is the some of the only other tax advantaged space available.
In a majority of cases, maxing a traditional 401k and a Roth IRA will be the best option so you max your tax advantaged space and reduce taxes as much as possible.
If you are over the 22% bracket and don’t plan on being super rich in retirement, traditional 401k is probably better. At 12% and 22% Roth can be worth it.
ALWAYS BOTH!
Traditional so you can withdraw $80K (assuming married) and remain in the 12% bracket. It’s a huge jump from 12% to the next bracket of 22%. This might change in the future but the overall idea is Roth for yearly income.
Roth for large purchases. Need $400K for a house? Roth will be tax free when you withdraw the money, so make it worth it!
You may find these links helpful:
– [Roth or Traditional](/r/personalfinance/wiki/rothortraditional)
– [General Information on Rollovers](/r/personalfinance/wiki/retirementaccounts/rollovers)
– [Retirement Accounts](/r/personalfinance/wiki/index#wiki_retirement)
– [“How to handle $”](/r/personalfinance/wiki/commontopics)
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>So my question is, if I see myself making much more money later down the line and possibly being in a higher tax bracket, would it make more sense to invest in a Roth IRA?
No – the IRS doesn’t tax you at your all-time high income. Your income starts at $0 on January 1st every year. So say your’e at 22% marginal now – your Roth costs you 22% marginal. Say you’re married in retirement with no other income and pull out $100k/yr. You’ll pay <22% on every dollar you pull out barring tax changes (all dollars would be deductible, taxed at 10% or 12%), so that’s a clear win for Traditional.
Now say you make $250k/yr in 5 years. 22% is still higher than 0%, 10%, and 12%. Say you make $400k in 10 years. 22% is still higher than 0%, 10%, and 12%. Your income in 5/10/20 years is about as relevant as your favorite color. The exception is if your high income induces you to spend more, and therefore drives up your *retirement* spending because of your increased lifestyle. But why make all those assumptions? Just try to figure your retirement spending and let that be a guide to estimate your future tax rate(s) on any dollars you pull out of an IRA.
Nobody knows for sure…at your age you can count on Congress changing the rules a few times…both taxes and retirement. And that’s why it’s difficult and confusing.
So my take is pretty simple: do both.
* if you need the tax break to put 6k into your IRA for 2022, go traditional.
* Current IRA rules include an RMD — a Required Minimum Distribution. Starting at age 72, the government gets to tell you how much you must take out of your Traditional IRA every year. But not Roth IRAs. Today they are not subject to RMDs. (I suppose that could change)
* Holdings in Traditional IRAs get in the way of backdoor Roth contributions if you ever get there (look up Pro-Rata rule)
* Remember that you can move from Traditional to Roth later.
One strategy could be to use your lack of income after retiring but before being subject to RMDs to convert from Traditional to Roth with very little taxes.
You got it the other way around.
Roth is post tax investments
401k is tax deferred
So if you anticipate higher wage in the future, investing into the 401k will help lower your overall income for the tax brackets
Roth- when retired at 65 and you take out your money. All of it including the growth is tax free.
You can ALSO withdraw what you have already contributed (not the growth) after 5 years without penalty
401k – all of it will be taxed when you withdraw at retirement as they are PreTax dollars.
Hope that helps
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