You’re nearing retirement age, and you’ve been diligently contributing to a traditional IRA for years. But you’ve recently realized that you may be in a higher tax bracket when you retire than you are now. What could you have done to reduce the taxes you’ll pay on your retirement savings?
Roth IRA Option
One option is to have considered a Roth IRA. With a Roth IRA, you pay taxes on the money going into your account, but all future withdrawals are tax-free. So if you think your marginal taxes will be higher in retirement than they are right now, a Roth IRA may be a good choice.
- Taxes – Think Tax-Free
- Income Limits
- RMDs (Required Minimum Distributions)
Roth IRA and Taxes (Think Tax-free)
Here are a few things you can do to ensure you get the most out of your Roth IRA. First, contribute as much as you can each year to your Roth IRA if a direct contribution is allowed.
The deductible amount that you can contribute changes periodically. In 2023, the contribution limit is $6,500 a year—unless you are age 50 or older, in which case, you can deposit up to $7,500. So if you can, take advantage of the higher contribution limit.
Second, be aware of the five-year rule. With a Roth IRA, you can withdraw your contributions at any time, tax-free and penalty-free. But if you want to withdraw your earnings, you must wait until you’re 59 1/2 years old and have held the account for at least five years. So if you’re close to retirement, ensure you won’t need to access your earnings before turning 59 1/2.
To contribute to a Roth IRA, you must have earned income. If you’re retired and have no earned income, you can’t contribute directly to a Roth IRA. But there’s still a way you can get money into a Roth IRA: by converting your traditional IRA into a Roth IRA. You will have to pay taxes on the amount you convert, but if you think your marginal tax rate will be lower in retirement than it is now, it may be worth doing. And remember, once the money is in a Roth IRA, all future withdrawals are tax-free. Talk to your financial advisor to see if a Roth IRA suits you. They can help you decide whether to contribute to a Roth IRA, convert your traditional IRA, or do both. They can also help you determine how much you can contribute and the tax implications.
Finally, remember that a Roth IRA is a great way to pass wealth to your heirs. With a traditional IRA, your heirs will have to pay taxes on the money they inherit. But with a Roth IRA, your heirs can withdraw the money tax-free. So a Roth IRA is a good choice if you’re looking for a way to minimize the taxes your heirs will have to pay.
Roth IRAs and Income limits
If your modified adjusted gross income (MAGI) is above a certain amount, you may be unable to contribute to a Roth IRA. In 2023, the contribution limit begins to phase out for singles with MAGI of $138,001 or more and married couples filing jointly with MAGI of $218,001 or more. If your MAGI is above these limits, you may still be able to contribute to a Roth (tax-free) type plan if your employer offers a retirement plan such as a 401(k) and you meet certain other conditions.
Roth IRA and RMDs
Another advantage of a Roth IRA is that there are no required minimum distributions (RMDs) during the account holder’s lifetime. With a traditional IRA, you are required to start taking distributions at age 73. But with a Roth IRA, you can leave your money invested for as long as you want. This can be a great way to maximize the growth of your account and minimize the taxes you’ll owe in retirement.
Conclusion
A Roth IRA can be a great way to save for retirement. It offers tax-free growth, and there are no required minimum distributions during the account holder’s lifetime. So if you’re looking for a way to minimize the taxes you’ll owe in retirement, a Roth IRA is a good choice.
Author
Isaac is a Fee-Only (no products sold) Certified Financial Planner® Practitioner. Isaac founded Stalwart Financial Planning with offices in Fayetteville NC and Durham NC. Isaac provides comprehensive planning and investment management services to individuals from all walks of life. Isaac can be reached by phone at 910-867-8464, or by email (iallen@StalwartPlanning.com). Visit him at Stawart Financial Planning www.StalwartPlanning.com.