A Roth IRA is funded with after-tax dollars. That means when you make contributions, you have paid all the taxes you will ever pay on your Roth IRA. In retirement when you take distributions, you won't owe any tax on your contributions or your investment earnings.

Let’s look at an example. At the age of 35 Sharon opens a Roth IRA account and begins making contributions. Every month she takes $500 of her take-home pay and places it into the account. She has the account invested in equities which on average grow at a rate of 8 percent per year. 30 years later at the age of 65, she decides to begin taking distributions from the Roth IRA to supplement her Social Security retirement benefits. Over the years her contributions have totaled $180,000, and her accumulated investment earnings equal $570,000. The total sum in her Roth IRA is $750,000. She will never pay one penny of tax on that money or any amount she withdraws, and the remaining balance will continue to grow tax-free.

EGGSTACK RETIREMENT PLANNER

Here are some fun facts about Roth IRAs. You can put your Roth IRA funds in any investment such as stocks, bonds, ETFs, mutual funds, or real estate trusts. The annual contribution limit is $7,000 plus a $1,000 catch-up allowance for those age 50 and older. The IRS sets limits on adjusted gross income for Roth IRAs. In other words, if your adjusted gross income is above the limit, you can’t play any Roth IRA reindeer games. The 2024 limit for married couples filing jointly is $240,000. For all other filing statuses, the limit is $161,000.

You can withdraw your contributions from a Roth IRA at any time without paying any taxes or penalties. That comes in handy if you have an emergency and need to get your hands on some quick cash. Also, Roth IRAs have no required minimum distributions. Finally, an heir who inherits a Roth IRA owes no taxes on it.

Conclusion

The wonder of a Roth IRA is that you can fund it now with after-tax dollars while tax rates are low, and when you cash it in at a later date when tax rates may be higher you won’t owe any taxes. All of the money in a Roth IRA is tax-exempt. Meanwhile, your friends and neighbors with pre-tax retirement accounts such as 401(k)s and traditional IRAs will be faced with hefty tax bills when they take distributions.

Photo credit: Pixabay Eggstack News will never post an article influenced by an outside company or advertiser. Our mission is to help you overcome uncertainty about retirement planning and inspire confidence in your financial future.