What Don’t I Know about My Roth IRA?

1.15.20New research from TD Ameritrade finds that many individuals are confused when it comes to Roth IRAs — accounts that are funded with post-tax money. Consequently, many people are leaving cash on the table, when it comes to maximizing this savings strategy.

CNBC’s recent article entitled “Not knowing these Roth IRA truths can cost you” explains the biggest things that investors typically don’t know about Roth IRAs. They include not knowing how to decide between a Roth IRA and Traditional IRA, along with the fact that you can contribute to a 401(k) and a Roth IRA.

You’re allowed to contribute to a 401(k) and a Roth IRA. Many workers get their retirement savings education from their employer. Those employer-provided plans are usually 401(k) plans, and you generally want to contribute enough to that account to get the employer match. However, what 60% of investors incorrectly think is that you can only contribute to a Roth once you reach your 401(k) maximum, according to TD Ameritrade’s research. It’s okay (and smart) to be contributing to both a Roth IRA and a 401(k) at the same time. You don’t have to hit the 401(k) max to contribute to a Roth IRA.

Roth 401(k) and Roth IRA contributions are not identical. Many 401(k) plans now offer savers the ability to save post-tax money in their 401(k) plans. However, these savings are separate. As a result, you can both make Roth 401(k) contributions and save in a Roth IRA at the same time. These accounts have different rules. Roth savings options in 401(k) plans are subject to maximum limits for those accounts. In 2020, that will be $19,500, or $26,000 for individuals who are 50 and older. Roth IRAs are subject to earnings limits, and for many, it’s $122,000.

Contributions can still be made after age 70½. A mere 22% of those surveyed by TD Ameritrade said they know it’s still possible to contribute to a Roth IRA, after they reach age 70½. Some of that misconception is attributable to the fact that traditional pre-tax IRAs prohibit individuals from making contributions after that age. However, this will change in 2020. The SECURE Act will allow individuals to place   retirement savings in all IRA accounts beyond age 70½, if you have earned income.

Note that with Roth IRAs, the money you contributed can be withdrawn tax-free, because the money invested was post-tax. With the earnings on the money you invested in a Roth IRA, there’s a five-year rule before you can take that out penalty-free (as long as you’re over 59½). The five-year rule on earnings is based on when you first open the account.

Roth IRAs can help with Medicare costs. Having more taxable income in retirement can be expensive, because what you pay for Medicare Part B is based on your taxable income in retirement. You can use Roth IRAs to provide tax-free income in retirement, and it’s not going to increase your Medicare Part B premium.

Roth IRA conversions can help with tax bills in retirement. A Roth IRA conversion is when you move money from a pre-tax traditional IRA to a post-tax Roth which lets the after-tax money grow and eventually become tax-free, so account holders don’t have to pay taxes on it in the future. However, with the Tax Cuts and Jobs Act, you can’t reverse a conversion.

Reference: CNBC (Dec. 23, 2019) “Not knowing these Roth IRA truths can cost you”

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