If you are getting started with retirement savings, you might be wondering whether you should open a Roth IRA or a traditional IRA. While these two accounts can help you save for retirement, each has unique benefits and drawbacks you must consider before opening an account. The biggest difference between a traditional IRA and a Roth IRA is when you get tax benefits.
With the Roth IRA, you pay tax upfront but grow your account tax-free and pay no income tax on qualifying withdrawals. Conversely, your contributions might be tax-deductible for the traditional IRA, but you will pay tax on your distributions during retirement.
Here is everything you need to know about traditional IRA vs. Roth IRA.
Roth IRA vs. Traditional IRA
When comparing a traditional IRA to a Roth IRA, the main difference is how much you save in money taxes and when you receive those tax benefits.
With a Roth IRA, your contributions to your account come from your after-tax money. This allows you to grow your account tax-free and pay no tax on qualifying contributions during retirement.
The traditional IRA, however, is the opposite. Instead of paying taxes upfront, your contributions to the account might be fully or partially tax-deductible. This allows you to reduce your taxable income and build your retirement savings faster. Applicable taxes are then applied to your withdrawals during retirement. Simply put, a traditional IRA behaves like A 401(K). The big difference between a 401(K) and a traditional IRA is that your contribution limit is much higher on a 401(K) plan, an employer sponsors the plan, and you might get an employer match.
Traditional IRA vs. Roth IRA comparison
To pick the right IRA for your retirement savings, evaluate each account’s benefits and drawbacks and how each account aligns with your retirement savings goals. The following table provides a detailed comparison of a traditional IRA and a Roth IRA.
Comparison between a Roth IRA and a traditional IRA
| Features | Roth IRA | Traditional IRA |
| Contribution eligibility | You can contribute if you or your spouse(when filing jointly) have taxable income and your Modified Adjusted Gross Income(MAGI)is below acceptable limits set by the IRS. These limits change every year. | If you or your spouse(when filing jointly) have taxable compensation, you can contribute to a traditional IRA regardless of age. |
| Tax deductibility | All your contributions come from after-tax wages. | Contributions to a traditional IRA are deductible when you meet qualification requirements. Your modified AGI, filing status, and other tax advantages you have with your work will also affect your eligibility for deduction and how much you can deduct. |
| Required Minimum Distributions (RMDs) | Distribution and withdrawal taxes and penalty | Traditional IRA requires that you take RMDs by April 1 following the year you turned 73. |
| Distribution and withdrawals taxes and penalty | Traditional IRA requires that you take RMDs by April 1, following the year you turned 73. | Deductible contributions will be taxed during retirement. Withdrawing money from the account before you turn 59 1/2 will result in a 10% penalty and taxes. |
| When can you take the money out? | The smaller of $7,000, or $8,000 if you’re 50 or older, or your taxable compensation for the year. | The money can be taken out anytime (be aware of penalty and tax on unqualified distributions) |
| Deadline for contributions | The deadline of your tax return without including extensions | The deadline of your tax return without including extensions |
| Maximum contributions in 2024 | The smaller of $7,000, or $8,000 if you’re 50 or older, or your taxable yearly compensation. | The smaller of $7,000, or $8,000 if you’re 50 or older, or your taxable yearly compensation. |
Contribution limits to traditional IRAs and Roth IRAs in 2024
The contribution limit to a Roth IRA and traditional IRA is the same for 2023 and 2024. According to Charles Schwab, the maximum contributions to an IRA for 2024 are $7,000 or $8,000 when you are 50 or older. For 2023, you can contribute up to $6,500 to your IRA. If you are 50 or older, you get an extra $1,000 catch-up contribution.
Contributions you make to your Roth IRA are not tax-deductible. That is, you pay tax first and contribute later. This allows you to grow your account tax-free, and every dime you make on your account goes into your pocket. Your modified adjustable income (MAGI) and filing status will affect your contribution limit and eligibility.
On the other hand, your traditional IRA allows you to make before-tax contributions. When you retire, however, you must pay tax on deductible contributions you made to the account. The traditional IRA reduces your taxable income, which allows you to grow your account faster and pay fewer taxes for the year you contributed to it.
Your filing status, MAGI, and other benefits you or your spouse have from work will directly affect your deductible amount.
When is the deadline to contribute to an IRA?
Your contributions to traditional and Roth IRAs should be made within the acceptable window the IRS provides. Usually, the tax filing deadline for the tax year becomes your deadline for contributing to the account. Keep in mind that extensions are not included in this deadline.
According to the Internal Revenue Service (IRS), the Roth IRA contribution deadline was April 18, 2022. If you wanted to contribute to your 2022 Roth IRA or traditional IRA, you had until April 18, 2023, to make those contributions. To avoid confusion, you must inform your institutions that those contributions are meant for the previous year, 2022, in this case. Otherwise, those contributions could be saved for the following year.
Early withdrawal penalty on Roth IRA and Traditional IRA
The money you saved for retirement must stay in your retirement account until you retire. To withdraw money from your IRA without paying a penalty, you must be 59½. Failure to do so will result in a 10% penalty and applicable taxes on the amount you withdrew. Since your contributions to a traditional IRA are before-tax, you will pay tax on your distributions on top of that 10% additional tax.
This rule is slightly modified regarding a Roth IRA, as contributions to the account are already taxed. According to Charles Schwab, you pay a penalty on early withdrawals from your Roth IRA only when you are:
- Under 59½, and
- Your account is under a 5-year holding period
Some exceptions to these rules also apply. The early withdrawal penalty could be waived if distributions are used to buy your first home, pay for college expenses, or cover adoption or birth expenses. For more details on these exceptions, read the IRS guidelines.
Roth IRA vs. Traditional IRA: Which one is better?
When comparing a Roth IRA vs. a traditional IRA, the choice you make will depend on a few things:
- Your current financial situations
- Retirement saving goals
- Your income
- Whether or not you have other tax-advantaged accounts from work.
Open a traditional IRA if you want to reduce your taxable income and expect a lower income during retirement. A traditional IRA will also be a better choice if you don’t have a 401(K) plan with your job. The Traditional IRA will function like a 401(K), allowing you to lower your table income. The only difference is that your contribution limits will be much lower than 401(k) contributions.
Open a Roth IRA if you are expecting a higher retirement income. Since contributions to a Roth IRA come from after-tax wages, you will grow your account tax-free and pay no tax on qualified withdrawals during retirement. If you have a higher retirement income, your Roth IRA withdrawals will help you reduce your taxes during retirement since they are not taxable.
Can you have a Roth IRA and a traditional IRA simultaneously?
Yes. You can have a Roth IRA and a traditional IRA simultaneously. Remember that you cannot exceed acceptable contribution limits on all your IRAs, which are $7,000 for 2024 or $8,000 if you are 50 or older for 2024. This means the total contribution to both accounts cannot exceed these limits. For example, if you contribute $4,000 to your Roth IRA, the maximum you can contribute to your Traditional IRA will be $3,000, as the total contribution will equal $7,000 for 2024.
A portion you contribute to your traditional IRA will help you lower your taxable income, while your Roth IRA contributions will help you grow your account tax-free and pay no tax during retirement.
