The Power of the Roth IRA

At Mersberger Financial Group, we are big proponents of the Roth IRA, which we feel is underutilized by many investors.

Joshua P. Mersberger, CFP®, CRPC

May. 24th, 2017

A bridge over a road
A bridge over a road
The Power of the Roth IRA

At Mersberger Financial Group, we are big proponents of the Roth IRA, which we feel is underutilized by many investors.

Background on the Roth IRA

The Roth IRA was created in 1997 by the Taxpayer Relief Act and is a great way to save money. Prior to the creation of the Roth IRA, the only way to save money on a tax-qualified basis was to contribute to a traditional IRA or 401k. This meant that you got a tax deduction on the money that was contributed and the money grew tax-free until it was withdrawn, usually in retirement. However, the downside to this is that the entire amount withdrawn from a traditional IRA or 401k is taxable at whatever your income tax level is. This can cause increased taxation on Social Security benefits as well having the effect of pushing you into a higher tax bracket.

Tax Benefits

The Roth IRA, on the other hand, is a vehicle for saving on an after-tax basis. With a Roth IRA, you do not get the benefit of an up-front tax deduction. The contribution to a Roth IRA is made on an after-tax basis but it still grows tax-free, just like a traditional IRA. After having the account for five years, if you begin to take qualified withdrawals from a Roth IRA, the entire amount withdrawn is tax-free. The great thing about this is you are only paying taxes on the amount you originally contribute, not the amount that the contribution has grown to. Roth IRA’s are a great account to withdraw from in retirement as they do not cause an increase in taxable income and avoid increasing the amount of taxes due on Social Security.

Strategies

Most investors today have the option of contributing to a Roth 401k, which is a great place to start especially if you are a high-income earner. You also have the option of contributing to a Roth IRA outside of your employer, depending on your earned income level. All in all, the sooner that you can start contributing to a Roth IRA the better as it gives compound interest a longer time to work.

Please contact our office if you have any questions regarding this topic.

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