What’s Best: Roth or Traditional IRA?

various US currency rolled tightly and lined up together, including a twenty and one hundred dollar bill

I am often asked which is the smarter investment, a Traditional IRA or a ROTH IRA?  As with so many things, the answer is, “It depends”. In making your decision, let’s look at several key differences in the two retirement plans: 

  1. Tax benefits.  One of the primary benefits of investing in a Traditional IRA is a current tax deduction for your contributions.  Once invested, your Traditional IRA money grows tax deferred… meaning there is no taxation of interest, dividends or capital gains until the funds are withdrawn during retirement.  Withdrawals during retirement are taxed as ordinary income, presumably at lower tax rates.  With a Roth IRA your contributions are not deductible but qualified withdrawals are forever tax-free.
  2. Contribution limits.  For 2017 the maximum contribution limit for either the Traditional or Roth IRA is $5,500.  If you turned age 50 during 2017, you’re eligible for an additional $1,000 catch-up contribution.
  3. Income limitations.  Your ability to take a deduction or make a contribution may be restricted based on your modified adjusted gross income or participation in an employer’s retirement plan.  With a Traditional IRA, if you were a participant in a company sponsored retirement plan in 2017, the deductibility of contributions begins phasing out if your modified adjusted gross income is $99,000 – $119,000 for married couples filing jointly; $62,000 – $72,000 for single filers.  If you were not a participant in a company sponsored retirement plan in 2017 but your spouse was, the phase-out occurs between $186,000 – $196,000.  If you are single and were not covered by a company sponsored retirement plan in 2017, there is no phase-out.  Note that if your income exceeds these limits, you can still make a contribution to a Traditional IRA but you will not receive a tax deduction.  Retirement distributions will then be a combination of ordinary income (your investment gains) and return of investment contributions.

With a Roth IRA, your ability to make a contribution begins phasing out as your modified adjusted gross income rises between $186,000 – $196,000; and for single filers $118,000 – $133,000.

  1. Distributions.  Beginning at age 70½ you must take Required Minimum Distributions (RMDs) from your Traditional IRA.  There is no such requirement for Roth IRAs.   The government imposes a 10% penalty for distributions taken from a Traditional IRA prior to age 59½.   With a Roth IRA, you may take distributions of the amounts you have contributed without penalty at any time.  Distributions of earnings are subject to a 10% penalty unless the Roth has been established a minimum of 5 years and you are at least age 59½.  Other exceptions apply.

Recommendation Guidelines.  Assuming you are eligible to contribute to either a deductible Traditional IRA or a Roth IRA, how do you decide which is best?  My rule of thumb is that if you are currently in the 25% or lower tax bracket, go with the Roth IRA.  If you are in the 33% or higher tax brackets, use the Traditional IRA so that you benefit from an immediate tax deduction.  The 28% tax bracket is the ‘swing’ bracket where you could go either way.