Traditional IRA vs. Roth IRA: What’s the Difference?

It's all about when you want to pay taxes

Couple talking to an advisor about Roth and traditional IRAs
•••

kate_sept2004 / Getty Images

Individual retirement arrangements (IRAs) are savings accounts that have tax and growth advantages over other types of accounts. You can choose from two types of IRAs: a traditional IRA or a Roth. The main differences between the two are when you pay taxes and when you need to begin withdrawing from them.

Difference Between a Roth IRA and a Traditional IRA

Traditional IRA Roth IRA
Tax Benefits Tax-deductible contributions and tax-deferred growth Tax-free growth potential; qualified withdrawals are tax-free; non-deductible contributions
Income Requirements No income limitation Has income limitations
Required Minimum Distributions Must take required minimum distributions No required minimum distributions
Early Withdrawals Full amount penalized Only earnings are penalized

Tax Benefits

Contributions to a traditional IRA may be tax-deductible at the time you make them, but income taxes must be paid when you withdraw funds in retirement. High earners may prefer a traditional IRA over a Roth IRA because they reap the tax savings upfront. They'll take the tax hit in retirement when they may be in a lower income tax bracket.

Anyone over age 18 may contribute to an IRA, tax deductions for contributions to a traditional IRA can be limited or not even allowed for high earners. You might not be eligible if you or your spouse have a retirement plan at work, and your modified adjusted gross income (AGI) exceeds a certain limit.

Contributions to a Roth IRA are made with after-tax dollars. A key benefit of a Roth IRA is that qualified distributions are tax-free. Growth of the funds in a Roth IRA won't be taxed. They're a great investment option for those who start saving early.

Note

Withdrawals from a Roth IRA aren't taxed because contributions aren't tax-deductible.

No deduction is allowed in tax year 2022 if you file as single or head of household and you have an AGI of $78,000 or more. This is up from $76,000 in 2021. You can't take a deduction if you're married and filing jointly and if you have an AGI of $129,000 or more. This is up from $125,000 in 2021. The same income limit applies if you're a qualifying widow(er).

You're able to fully deduct your contributions if you earn less than $214,000 combined in 2022 and you and your spouse don't have a plan at work. This is up from $208,000 in 2021. You can deduct a portion of your contributions if your combined incomes are between $204,000 ($198,000 in 2021) and $214,000, up from $208,000 in 2021.

Income Requirements

Roth IRAs also have an income cap. You may be limited on how much you can contribute to a Roth IRA if you exceed it, or you may not be able to contribute at all.

You can't contribute to a Roth IRA in tax year 2022 if you're a single taxpayer with a modified AGI of $144,000 or more, up from $140,000 in 2021. But you can make partial contributions in 2022 if you earn between $129,000 and $144,000, up from $125,000 to $140,000 in 2021.

Important

Traditional IRAs do not have income caps. They only have contribution limits.

The income limit is $214,000 in 2022 for married taxpayers who file jointly, an increase from $208,000 in 2021. You can make partial contributions if you earn between $198,000 and $208,000 in 2021, increasing to $204,000 to $214,000 in 2022.

Distribution Rules

One of the biggest differences between a traditional IRA and a Roth IRA is that you're not required to withdraw funds from a Roth IRA at a certain time. You've already paid taxes on the funds, so the IRS isn't waiting to collect. The government requires withdrawals from traditional IRAs because taxes are deferred until the time you take them.

Early Withdrawals

You must begin withdrawing funds from a traditional IRA when you reach age 70½ or age 72, depending upon your date of birth. This single difference makes many people select the Roth over a traditional IRA.

Withdrawals from a traditional IRA before age 59½ can trigger a 10% early withdrawal penalty, but there are exceptions for certain life events. They include permanent and total disability, qualified education expenses, and the qualified first-time purchase of a home.

There's also a 10% early withdrawal penalty for withdrawing earnings from a Roth IRA before age 59½, but contributions to a Roth IRA are post-tax. There are no restrictions or penalties for withdrawing your original contributions before a certain age. Of course, it’s always wise to keep retirement savings invested and growing, but this feature provides flexibility. It can be helpful if unexpected financial situations arise.

Important

The CARES Act waived RMDs for 2020, but they're required before Dec. 31 for 2021.

Other IRA Considerations

Many other factors should also be considered when you're comparing Roth and traditional IRAs:

  • With whom will you open the account?
  • Will you have more than one account?
  • How much can you contribute?
  • What if you change your mind about the type of IRA you choose?

Opening an IRA

Many of the same institutions where you handle other aspects of your financial life can help you set up an IRA. Some are brick-and-mortar businesses, like banks and credit unions. There are also online options and firms, like Charles Schwab, Fidelity, or E-Trade.

Each broker will have different options for you to choose from and different investment types within their packages. Be sure that you know what asset types an IRA is composed of, such as stocks, bonds, or other types of funds. Be sure you're comfortable with the risks of investing in the IRA you choose.

Tip

Take the time to understand all the IRA investment options that are being offered before you decide which firm to go with.

Multiple Retirement Accounts

It is possible to have multiple IRAs in addition to having a work-sponsored retirement plan. Many people have what's known as a "rollover IRA." They use to move their 401(k) balance into a different account when they leave a job. Important rules are in place for shifting funds in that sort of situation to avoid penalties.

Contribution Limits

There's a maximum amount you can contribute to all of your IRAs. It doesn't matter whether the money is in a single IRA or spread over multiple IRAs. The limit is $6,000 in 2021, and it doesn't change in 2022. But you can contribute $7,000 as part of a “catch-up” policy if you're age 50 or older.

Converting a Traditional IRA to a Roth IRA

What if your situation changes mid-career? You might change your mind about the type of IRA you need. You can always convert a traditional IRA into a Roth IRA. That can be a good idea when your tax bracket changes, or it can be helpful if you decide you'd rather have the tax-free withdrawals of a Roth IRA. Just be aware that a conversion will trigger a tax on any of the untaxed amounts in the traditional IRA.

Which IRA Is Right for You?

Deciding which IRA you should have depends on your earnings and your tax situation when you begin contributing. It also depends on your financial circumstances when you expect to begin your withdrawals.

Retirement accounts are built around tax incentives. Traditional IRAs offer qualified participants tax breaks upfront. Taxes are only incurred upon withdrawing the funds. Roth IRAs do the opposite because they're funded with post-tax dollars. There are no taxes on withdrawals in retirement.

Important

A traditional IRA may be right for you if you expect to be in a lower tax bracket in retirement than you are now, but what if you'll be in a higher bracket? It might be worth it to look into a Roth IRA in this case.

Roth IRAs don't have early withdrawal penalties on original contributions if you want to begin your withdrawals early. You can make withdrawals on your principal if you leave the earnings untouched until age 59½.

The Bottom Line

The tax benefits and required minimum distributions are the keys to deciding which of the two retirement accounts is better for you. Work through your finances to see where you are now and where you think you'll be when you want to retire. That can help you decide which is best for you.

Discuss your plans with a financial advisor if you still can't decide. They can help you weigh the features and benefits of both types of accounts. They can also help you forecast a realistic financial future.

Key Takeaways

  • A traditional IRA provides tax incentives on the front end through tax-deductible deposits. A Roth IRA allows after-tax dollars to grow tax-free. Qualified withdrawals are not taxed.
  • Income caps may prevent high earners from contributing to a Roth IRA.
  • The annual contribution limit for both a traditional IRA and a Roth is $6,000 in tax years 2021 and 2022. It's $7,000 for those who are age 50 or older.
  • It helps to forecast the tax bracket you'll be in when you want to retire so you can decide which IRA is better for your current and future circumstances.