common investing mistakesAre you looking for a place or vehicle where you can invest your money and take advantage of tax benefits. The Roth IRA is the one of the best, especially for young adults. I’ve written before of the reasons why Roth IRAs are perfect for people in their 20s, but here’s a comprehensive guide to Roth IRAs. That’s right – everything you need to know. I’ll start with the basics, and move on to some of the more advanced questions. Even if you thought you knew everything about Roth IRAs, I bet you will learn something if you read through the entire post.

What does “IRA” mean?

“IRA” means Individual Retirement Arrangement.

What’s the difference between Traditional IRA and Roth IRA?

The primary difference between a traditional IRA and a Roth IRA is the tax benefits. A traditional IRA offers immediate tax benefits (allowing you to deduct your contributions from your gross income) but is taxable upon withdrawal in retirement. A Roth IRA, on the other hand offers delayed tax benefits. This means that you cannot deduct the contributions from your gross income in the year that you contribute them, but since you are paying tax on these contributions upfront, all future withdrawals will be tax-free.

Who can use Roth IRAs?

For 2013, anyone who earns money and earns less than $127,000 as an individual or $188,000 married (adjusted gross income) can contribute to a Roth IRA. Regardless of whether you have a 401(k) or 403(b) through your employer, you’re eligible to use a Roth IRA – so it can serve as an additional retirement account, or your only retirement account (although I wouldn’t advise this for too long).

How much can you invest in a Roth IRA?

The maximum contribution for a Roth IRA in 2013 is $5,500, or $6,500 if you are over 50. If you earn less than this amount, you can only contribute up to your earnings, unless you are married. The current amounts are increases from 2012, which was $5,000/$6,000 respectively.

If you are married filing jointly and make more than $178,000 (adjusted gross income) but less than $188,000, you will have a lower contribution limit. The same applies for an individual who earns more than $112,000 (adjusted gross income) but less than $127,000. Learn more about what your contribution limit.

When can you contribute to a Roth IRA?

Roth IRA contributions are limited on WHEN you can make the contributions. You can make contributions at any point during the calendar year or before April 15 in the following calendar year. That means that I could contribute money towards 2013 at any point during this year and as late as April 15, 2014. After that point, you can no longer contribute to the previous calendar year.

Why do people over 50 get to contribute more money?

People over 50 are given a slightly higher contribution because it is understood that people nearing retirement age are “playing catch up,” or trying to put more money away for retirement.

Can I contribute money to my spouse’s Roth IRA?

If you are married and filing a join tax return, yes, you may contribute up to the maximum contribution limit (assuming your adjusted gross income does not exceed the earlier-established limits). This means if your spouse stays at home while you work and you earn less than $178,000, you can contribute $5,500 in your Roth IRA and $5,500 in his/hers. Read more on the IRS contributions FAQs.

Can I contribute money to both a Traditional IRA and Roth IRA?

Yes, you can contribute money to both a Traditional IRA and Roth IRA in the same year, but the combined total must not exceed the IRA contribution limit. Both the traditional IRA and Roth IRA are governed by the same contribution limits. This means that you could invest $3,000 in a traditional IRA and $2,500 in a Roth IRA (or some other variation), but you cannot exceed the annual contribution limit.

Can you withdraw any money from a Roth IRA? If so, are there time restrictions (i.e. wait until specific age) or penalties?

Yes, one of the benefits of the Roth IRA is that you can withdraw the money that you put into it at any time without any penalties or fees. The Roth IRA is intended to help you fund your retirement, but because all of the money that you put into it is “after-tax” money, you can withdraw that money without any penalty. There is, however, a tax for withdrawing any of the money above and beyond the money that you put into it, if you do so before age 59 1/2. That doesn’t mean that you should take out money for any reason (because you can’t just put it back in once you get back on your feet – you’re limited to the annual contributions), but it does offer some flexibility.

What are exceptions to withdraw more than contributions (to avoid penalties)?

There are a number of exceptions that qualify you for penalty-free distribution prior to the age of 59 1/2. In order to be able to touch your returns (anything above contributions), your account must be around for 5 years (or have contributed to the tax year that is 5 years ago). Most notable among exceptions are: the qualified first-time home buyer (up to $10,000), higher education expenses, medical expenses above 10% of adjusted gross income, medical premiums after losing a job, etc.

Will I ever be forced to withdraw money from my Roth IRA?

No. While there are “Required Minimum Distributions (RMDs)” for traditional IRAs starting at the age of 70 1/2, there are no such regulations on Roth IRAs, as long as you are the original owner of the Roth IRA. If your Roth IRA passes on to someone other than your spouse, there will be required minimum distributions that apply.

What happens to my Roth IRA when I die? when both I and my spouse die?

If something unfortunate were to happen to you, the owner of a Roth IRA, your Roth IRA would pass to the heir listed on your account. If the beneficiary is your spouse, he/she can delay the distributions until the year in which you would have turned 70 1/2 OR would also have the option to combine it with his/her Roth IRA. If the beneficiary was not your spouse (maybe your children), Required Minimum Distributions will apply. If your child or grandchild is too young to be financially responsible with the money, you could also set up a trust with the Roth IRA, as this Wall Street Journal article describes.

Will there be changes to these rules in the future? If so, which ones?

There will continue to be adjustments to a few key guidelines for the Roth IRA, with particular attention to: maximum contribution & salary limit for Roth IRA. These are typically adjusted every few years to account for inflation, but you should confirm the changes with the IRS each year. To give you an idea of how these might increase in the future, here’s a table of the recent contribution limits:

Year Contribution Limit Under 50 Contribution Limit 50 & Older
2002 $3,000 $3,500
2003 $3,000 $3,500
2004 $3,000 $3,500
2005 $4,000 $4,500
2006 $4,000 $5,000
2007 $4,000 $5,000
2008 $5,000 $6,000
2009 $5,000 $6,000
2010 $5,000 $6,000
2011 $5,000 $6,000
2012 $5,000 $6,000
2013 $5,500 $6,500


betterment-smallWhere can I open a Roth IRA?

You can open a Roth IRA at almost any investment broker (if not every one). If you are looking for an easy way to get started that offers one of the easiest tools to adjust your allocation for minimal expenses, try using betterment. You can get an extra $25 free when you open an account with them.

Read my Betterment Review for more information.


Advantages or Benefits of a Roth IRA

In case that was too tedious, I’ve listed the benefits of the Roth IRA below

  1. All of your retirement income will be tax free, and therefore, worth more than if you weren’t using the Roth IRA. Since the contribution limit for a traditional IRA is the same as a Roth IRA, you can have more money in your retirement by leveraging the Roth IRA tax benefits.
  2. You can withdraw the contributions at any time without penalty. That’s right, regardless how long your account has been active, how much you’ve contributed, or what your favorite color is, you have the right to take your money out at any time. You won’t be able to put it back as easily, but this offers a lot of flexibility. This means that the Roth IRA could serve as an emergency fund – offering you the protection you need while not letting your money waste away in a low-interest savings account.
  3. You can withdraw the earnings for qualified exceptions. Want to buy a home? You may qualify for an exception to withdraw your earnings (the money above what you have contributed) without penalty. This requires you to have the account open for 5 years (or contributed to the tax year 5 years ago).
  4. The Roth IRA can be a great estate-planning investment vehicle to provide tax-free income to your beneficiaries.

Extra Investing Tool:

If you have several investment accounts like I do (2 Roth IRAs, 2 403(b)s, 1 taxable investment account, multiple savings accounts), it can be difficult to manage all of them. I absolutely hate having to log in to each and everyone. Instead, I use personal capital, a free online tool that allows me to see all of my accounts at once (as well as the allocation of my investments).