What is a Roth IRA

This is one of the most useful tools that are out there. It is one of those tools that you should be taking advantage of right now. There are a few things that we need to go over when it comes to a Roth IRA, and that is what a Roth is, how it works, and are you at the right income level to contribute.

What is a Roth IRA?

I’d like to start this section of the article with a textbook definition of what a Roth is so here is Investopedia’s definition.

The first question that we have to answer when discussing this topic is what is a Roth IRA? William Roth, a Delaware senator, is who the retirement fund is named after. Well a Roth IRA is an individual retirement account that allows you to deposit money into a tax-sheltered investment account. I should also add that this is a type of retirement account. This means that after you get your paycheck you can put your money into your account.

A Roth IRA differs from a Traditional IRA in that with a Roth you deposit your money after it has been taxed. While with a Traditional IRA your money gets deposited into a retirement account before it has been taxed.

Once you put the money in there no matter how much it grows you won’t pay taxes on the back end. You’ll only pay taxes once you get the paycheck not after you take it out. You can open up an account at just about any big bank. I personally have my account opened with Merril Edge. I use Merril Edge only because I have my checking account with Bank of America. The type of account doesn’t matter just what you do with it.

There are other types of IRA accounts, and I wrote about one in my article Self-Directed Roth IRA. I’d only read that article though once you get a good understanding of this first. But now we need to discuss how you will utilize a Roth. So, let’s get to discussing that.

How does a Roth IRA Work?

I know the last topic ran a little long but don’t worry how a Roth works will be a little bit shorter. If you are familiar with a regular brokerage account, this works in the exact same way. The only difference is you deposit your money into the account after you pay taxes on it and you can’t take it out until you retire. The age you can take the money out is at 59.5 years of age. The kicker here is with a Roth because it has already been taxed before going into the Tax shelter, whatever you get out on the other end is all tax-free.

Per year you can deposit up to $6,000 into a Roth if you are single. Married you can contribute $6K/year and if both are over the age of 50 years of age you can contribute $7K/year

As an example let’s say I retire and in my Roth, I have about $1,000,000. That value has grown from the original $200,000 I was able to deposit till the age of 59.5 years old. The rest of the $1M is tax-free and is for you to spend as you will.

Is your income OK for a Roth IRA?

This is the next thing you have to consider when working with a Roth IRA, is do you make too much money to deposit money into a Roth. To contribute to a Roth IRA in 2021, a single tax filer must have an adjusted gross income of $140,000 or less. Which is up from $139,000 in 2020. If filing jointly, your joint adjusted gross income must be under $208,000 in 2021. Which is up from $206,000 in 2020. So, if you are making more than $140K and are single you can’t contribute to a Roth. As a married couple, if you make more than $208K you also can’t contribute to a Roth.

Takeaway

A Roth IRA is a very useful tool when you are looking to stow away for retirement. Contributing to your Roth every year can be a very rewarding experience. I’ll end this with food for thought. If you contribute $6K/year and invest in an Index Fund that returns 10% year over year. That could be a very hefty amount if you start contributing the second you get your first job. As always stay focused, do your research, and happy hunting.