Roth IRAs are individual retirement arrangements with unique tax benefits that can help you save for the time when you’re no longer working. Keep reading to learn more about how this type of after-tax individual retirement account works and how it affects your taxes, what the income limitations are, and how to open a Roth IRA.
- Roth IRAs allow you to enjoy tax-free qualified distributions if you meet certain qualifications.
- Your modified adjusted gross income (MAGI) affects whether you qualify for a Roth IRA and how much you can contribute.
- Anyone over the age of 18 can open a Roth IRA, if they meet those income qualifications.
What Is a Roth IRA?
A Roth IRA is a type of individual retirement account that allows you to pay federal (and usually state and local) taxes when you make contributions, rather than later when the money is withdrawn after you retire, after the account owner reaches age 59½, or due to disability or death. In addition, the account owner must have had a Roth IRA open for at least five years at the time of withdrawal.
While you can’t deduct the contributions you make to your Roth IRA, if you meet certain requirements you will enjoy tax-free qualified distributions. It’s worth noting that a Roth IRA has different qualification requirements and tax benefits from a traditional IRA.
Roth IRAs are a popular choice for people still in the early stages of their careers who expect to earn more down the road.
Who Qualifies for a Roth IRA?
When it comes to qualifying to participate in a Roth IRA, you need to be aware of income limitations. These limitations are based on your modified adjusted gross income (MAGI), which is often similar to the adjusted gross income (AGI) that you report on your federal income tax returns. If you aren’t earning an income, then you can’t qualify to contribute to a Roth IRA or traditional IRA. If you file your taxes as a single person, then your MAGI needs to be under $140,000 (if filing for the 2021 tax year) and if you are married and file jointly, then your MAGI can’t surpass $208,000.
If your income is too high to qualify for a Roth IRA, then a 401(k) account (if you’re offered one by your employer) can be a good option, as there are no income limits associated with this type of retirement savings account. Traditional IRAs also don’t have income limits.
Picking a Roth IRA Brokerage
You can open a Roth IRA at financial institutions like credit unions or banks or through investment brokerages and mutual fund providers. Generally, Roth IRA providers offer the following types of brokerage styles:
- Self-managed: You’ll be the one to select and manage your investments, so this is a better fit for someone who is well-versed on investing. Typically self-managed accounts have lower fees.
- Automated "robo advisor": Another low-fee option is an automated robo-advisor format where you can choose from different portfolios designed to suit different stages of life and risk tolerances. You won’t get much human interaction here and algorithms will help determine what the best investment choices are for you.
- Professionally managed: You can choose to work with a dedicated portfolio manager who will choose and manage your investments based on your preferences and needs. You can expect higher fees with this type of brokerage style.
Before you choose a brokerage to work with, you may want to consider asking the following questions and comparing the responses from multiple brokerages.
- What fees are associated with the account?
- What is your minimum initial investment amount?
- Do I have to maintain a certain minimum balance?
- How and when do you provide customer service?
- What are the firm's credentials and qualifications?
Opening a Roth IRA Account
Once you choose a Roth IRA brokerage firm, they can walk you through their required steps for opening your account, but you generally can expect to do the following:
- Submit documentation and information: To open your account, you’ll need to provide the brokerage with any requested documentation or personal information, such as your Social Security and driver’s license numbers, your employer’s name and address, statement information for assets or cash you are transferring, and beneficiary information.
- Make an initial deposit: While some Roth IRAs can be opened with a $0 balance, some will have an initial deposit requirement.
- Set up recurring deposits: These deposits will come directly out of your paycheck or bank account.
- Choose your investments: If you didn’t choose a professionally managed brokerage account, you’ll need to choose your own investments.
How long it takes to open a Roth IRA will depend on the brokerage firm you use, but it shouldn’t take too long. For example, TD Ameritrade advertises their account opening process only takes 15 minutes.
Investing After Your Roth IRA Is Open
When it comes time to choose your investment, how you do so will depend on the type of brokerage style you selected. Different brokerages offer varying types of investment products (some may offer limited products or only their own funds), but generally, these include investments like stocks, bonds, mutual funds, and exchange-traded funds (ETFs).
To make as much progress as possible, it’s a good idea to fund your Roth IRA every month and, if you can afford to, make the maximum allowable contribution each year.
In addition to eligibility, your MAGI also affects how much you can contribute to an IRA, but the most you can contribute annually to all of your IRAs combined (if you have a Roth and Traditional IRA) is $6,000 if you're under age 50, and $7,000, if you're 50 or older.
You can monitor how your investments are performing and update your portfolio from time to time. An advisor may do this for you or the investments may automatically update, depending on the type of brokerage style you selected. Either way it’s a good habit to check in on your investments from time to time.
Frequently Asked Questions (FAQs)
How old do you have to be to open a Roth IRA?
To open a Roth IRA, you usually need to be 18 or 21 years old or have an adult to serve as custodian of your account until the child reaches a required age, at which time control of the assets must be transferred to the young person. The age depends on the state where the minor lives.