Young savers are flocking to Roth IRAs.
They are taking the advice of parents, workplace financial coaches and tax advisers, who have long preached the gospel of these accounts to save for retirement and even big purchases.
By getting the money in early, the thinking goes, they are giving it time to grow tax-free. In the run-up to tax day, more savers are making last-minute contributions to max out their individual retirement accounts.
Young savers are opening Roth IRAs in addition to saving in their workplace retirement plans, where they can contribute up to $7,000, the maximum allowed in 2024.
Of those who contribute to an IRA or Roth IRA, 41% were under 40 in 2022, up from 28% in 2016, according to the latest data from the Center for Retirement Research at Boston College. And most young contributors choose the Roth option, according to the Investment Company Institute.
Many of those opening accounts are customers of financial technology firms, including those that promise money akin to 401(k) matches. Robinhood, for example, offers to match up to 3% of users’ IRA contributions.
Many financial advisors recommend that you first contribute to a workplace plan to take advantage of any employer match, and then open a Roth IRA.
Taxpayers can always access amounts up to their Roth IRA contributions with no tax hit or early-distribution penalties. Earnings generally can’t come out tax- and penalty-free until age 59½.
You can make IRA contributions for a given year any time between Jan. 1 and tax day of the following year. Taxpayers can still contribute for the 2024 tax year through April 15th. If possible, you should make the full contribution to a Roth IRA in January since you’ll have 15 months extra of compounding.
Taxpayers must have at least as much earned income as the amount of their IRA contributions, although there is an exception for spouses. With Roth IRAs, the ability to contribute directly depends on savers’ modified adjusted gross income. Those above the income limits can put money into a traditional IRA and move it into a Roth, though there are some pitfalls.
Contributions are in after-tax dollars, but withdrawals can be tax-free. As a result, Roth accounts can be a good choice for savers who expect their tax rate to be higher—or the same—at withdrawal versus at contribution.
With traditional IRAs, the opposite is the case: Contributions are often tax-deductible, and funds typically grow tax-deferred. So those accounts can make sense for savers who want to lower their taxable income now, and expect their tax bracket to be lower when they withdraw the money.
Traditional IRAs require annual payouts once you reach 73. Withdrawals are taxed as ordinary income. By contrast, you don’t have to take any distributions from a Roth during your lifetime.
One drawback of Roth IRAs is that, unlike 401(k)s where many employers automatically enroll employees in the plan and deduct contributions from their paychecks, IRA savers have to set up the accounts, make contributions and be diligent about sticking with it. Most IRA custodians let customers set up direct deposits into their IRAs.
Still, you have to pick your investments and stay on top of changing contribution limits.
If you think a Roth IRA is a great idea for you – we can help! Schedule a complimentary first meeting with us and we’ll help you get started on the road to your financial freedom.
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