Roth IRA – Benefits and Limitations

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Roth IRA has been around for over two decades and was created in 1997. However, if you do not know what Roth is or if you do not know what it entails then please keep reading. Here in this blog, I will attempt to explain Roth IRA retirement account, its benefits, and limitations.

As mentioned, Roth IRA is a one of the Retirement accounts where the contribution is done on a post or after-tax basis. For the year 2023, the contribution limit is $6500 for individuals under 50 and $7500 for over 50. An important condition to keep in mind is that for contributions to Roth IRA, the yearly gross income is set to be $153,000 or less for individuals filing Taxes as Single or $228,000 or less for Married filing Jointly. Below are benefits of Roth IRA retirement account:

  1. In a Roth IRA, the compounding of gains happens on a Tax free basis, meaning that there is no Income tax at the time of distributions. This is a big advantage over other retirement accounts such as the Traditional IRA, 401K, 403B and 457 where distributions are subject to Income tax.
  2. The other significant advantage is that the funds can stay in Roth IRA as long as one wants and there is no RMD (Required Minimum Distribution) unlike other Retirement accounts where the RMD kicks-in at age 73.
  3. For individuals or families with yearly gross income above the threshold, Backdoor Roth IRA conversion is also an option, in this option the conversion is done of the traditional retirement account to Roth IRA. The conversion is a Taxable event and Income Tax is paid in the year of conversion. Caution should be taken as the conversion will likely increase the yearly income and the income tax bracket.

Now here are few limitations:

  1. The contributions are from after tax dollars and not pre-tax, thus Roth IRA does not reduce Income Tax like other traditional retirement accounts.
  2. There is a 5-year account maintenance rule, which means that Roth IRA account must be opened and maintained for 5 years before distribution can be taken. If withdrawals are done before the 5-year period then there is a 10% penalty.
  3. Lastly, like the other retirement accounts, if withdrawals are done before 59 ½ for non-qualified events then there is a 10% penalty on the withdrawals.

Roth IRA retirement account is a wonderful option to grow your retirement account and your wealth with smart asset allocation and by taking advantage of power of yearly compounding – which the legendry investor Warren Buffet calls the ‘eighth wonder of the world’.

Please reach out to us in Blue Aris should you have any questions after reading this blog or should you need further explanation – we are here to help and our 1st consultation session is free.