How to Choose the Right IRA: Roth IRAs vs Traditional IRAs

Decide Which Individual Retirement Account (IRA) Is Best for You

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Individual retirement accounts, or IRAs, are an essential piece of retirement planning. They are retirement savings vehicles that offer tax benefits on retirement funds and are a smart choice for people of all ages and walks of life who are saving for their retirement. Through annual contributions to IRAs are limited by the Internal Revenue Service (IRS), currently up to $6,500 per year for taxpayers over 55 years and up to $5,500 for everyone else, they can offer significant benefits to any retirement plan.

But that is where the similarities between the types of IRAs end. When choosing between contributing to a Traditional IRA or a Roth IRA, you must first know the differences.

For some, the decision between a Roth IRA and a Traditional IRA is an easy one, as it might come down to eligibility. Let's take a look.

Are You Eligible for a Traditional Tax-Deductible IRA?

The first step in determining whether a Traditional IRA is a good option for you is to determine if you're eligible to deduct contributions to a Traditional IRA from your taxable income. The immediate benefit of a Traditional IRA is that contributions you make may be fully or partially deductible from your taxable income. But while everyone with taxable income is eligible to make contributions to a Traditional IRA (up to the current limit, of course), not everyone is eligible to deduct those contributions.

Simply put, if neither you nor your spouse is covered by an employer's qualified retirement plan, you are eligible to make tax-deductible contributions to a Traditional IRA no matter what your modified adjusted gross income (MAGI).

 If you are covered by another qualified retirement plan like a 401(k); however, the deductibility of your Traditional IRA contributions will be reduced when your MAGI reaches certain limits depending upon your filing status. Currently, the deduction limits for Traditional IRA contributions by filing status are as follows.

Single or Head of Household 
Modified Adjusted Gross Income (MAGI)Your IRA Deduction Limit Eligibility
$61,000 or lessFull deduction up to your contribution limit
More than $61,000, but less than $71,000Partial deduction
$71,000 or moreNo deduction
Married Filing Jointly or Qualifying Widow(er) 
Modified Adjusted Gross Income (MAGI)Your IRA Deduction Limit Eligibility
$98,000 or lessFull deduction up to your contribution limit
More than $98,000, but less than $118,000Partial deduction
$118,000 or moreNo deduction
Married Filing Separately 
Modified Adjusted Gross Income (MAGI)Your IRA Deduction Limit Eligibility
Less than $10,000Partial deduction
$10,000 or more No deduction

 

You will want to use these limits as a guide in determining your eligibility to deduct Traditional IRA contributions from your taxable income, but be aware that the IRS occasionally adjusts these limits for inflation.

Are You Eligible for a Roth IRA?

Income levels are more liberal for the Roth IRA, and you can still establish and contribute to a Roth IRA even if you already participate in an employer-sponsored retirement plan such as a 401(k), Profit Sharing or Pension Plan and/or have an existing Traditional IRA, within certain income levels.

The reason for this separate treatment of Roth IRAs is that contributions to Roth IRAs cannot be taken as a deduction against your taxable income. 

The amount that you can contribute to a Roth IRA is dependent upon your filing status and modified adjusted gross income (MAGI). Currently, those limits are:

Single, Head of Household, or Married Filing Separately 
Modified Adjusted Gross Income (MAGI)Your Roth IRA Contribution Limit
Less than $116,000Full amount up to the contribution limit
$116,000 or more, but less than $131,000Reduced contribution
$131,000 or moreZero
Married Filing Jointly or Qualifying Widow(er) 
Modified Adjusted Gross Income (MAGI)Your Roth IRA Contribution Limit
Less than $183,000Full amount up to the contribution limit
$183,000 or more, but less than $193,000Reduced contribution
$193,000 or moreZero
Married Filing Separately 
Modified Adjusted Gross Income (MAGI)Your Roth IRA Contribution Limit
Less than $10,000Reduced contribution
$10,000 or moreZero

 

You will want to use these limits as a guide in determining your eligibility to contribute to a Roth IRA, but be aware that the IRS occasionally adjusts these limits for inflation.

Traditional IRA versus Roth IRA

Your eligibility to deduct Traditional IRA contributions and your eligibility to contribute to a Roth IRA may very well determine which IRA you choose. But what if you are eligible for the benefits of both types, how you do you choose? The best way to make an informed decision after determining your eligibility is to weigh the unique aspects of each IRA type against one another.

Assuming you are eligible to deduct your contributions to a Traditional IRA, any contributions will grow tax-deferred, which means you won't pay taxes on your contributions until you withdraw them, presumably at retirement. When you withdraw the funds, you'll pay taxes on both your contributions and the earnings. If you are not eligible for the deduction, your contributions and earning will still benefit from tax-deferred growth, which is why having an IRA is still a good option for anyone savings for retirement. While you don't get a tax deduction when you make a contribution to a Roth IRA, the power of Roth IRAs is that the earnings are always tax-free. This tax-free* growth and the fact that Roth IRAs are not subject to the minimum distribution rules requiring withdrawals (also known as required minimum distributions or RMDs) after age 70½ are their major advantages.

Would You Benefit More from a Roth IRA?

Whether you will benefit more from a Roth IRA as opposed to a Traditional IRA depends on variables such as how long it will be before you retire when you plan to start taking distributions, and your tax bracket now and what it will be at the time of retirement. Even if you're eligible to contribute to a tax-deductible Traditional IRA, you may benefit over the long run by investing in a Roth IRA instead.

The tax advantages of a Roth IRA increases with the number of years between the time you establish the Roth IRA and the time you begin taking distributions. There is also the possibility of tax advantages if you expect that you will be in a higher tax bracket in retirement than you are now either because of higher income or a different tax code (which would have to be predicted). To really determine whether you will come out ahead with a Roth, you have to do some number crunching and look at your total investment picture. You may even want to talk to a tax accountant.

Converting Traditional IRA Funds to a Roth IRA

Some people are eligible to convert funds held in a Traditional IRA into a Roth IRA, but that conversion requires taxes to be paid on the amount being converted at the time of conversion. Speak with an IRA advisor before making a decision about conversion.

Other Miscellaneous IRA Details

  • You can set up an IRA with any financial institution authorized by the Internal Revenue Code, such as banks, trust companies, savings banks, brokerage firms or mutual fund companies.
  • You have until April 15th of each year to contribute to an IRA for the previous tax year, but the earlier in the year you make your contribution, the more earnings you'll accumulate.
  • *While Roth IRA contributions and earnings are generally considered tax-free, that is in reference to federal income taxes. State tax rules on Roth IRA distributions vary from state to state.

This article is meant as only a general overview of Roth versus Traditional IRAs. There are many other details that are covered on the IRS website pages dedicated to IRAs. For a side-by-side comparison of the rules regulating Traditional and Roth IRAs, see the IRS' helpful comparison chart.