MarksJarvis: Regular or Roth? Either IRA makes good sense

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Gail MarksJarvis

Posted: Monday, March 10, 2014 12:00 am

Think of the last time you bought something that made you very happy.

Maybe a car, a new pair of shoes, the snowblower that kept you from having a heart attack this winter. Whatever the item, it gave you instant gratification. You glanced at it and you smiled to yourself, thinking: “Wasn’t I smart to get this?”

Now, I want you to think of another purchase that will make you smile, but probably not instantly. This one needs to age — even more than a bottle of scotch. But when it’s properly aged, it could be even better than getting two cars for the price of one.

I’m talking about individual retirement accounts, because this is the season to indulge in this truly great deal.

If, for example, you are 30 and put $1,000 into an IRA before April 15 and invest it in a stock market mutual fund, it’s likely to turn into about $45,000 by the time you use it for retirement. In other words, it’s like seeing this sign in a store: “Get $45,000 for the price of $1,000.”

If you can somehow come up with the maximum of $5,500, it could turn into almost $250,000, or if a 30-year-old stashes away $5,500 a year, it could become about $2.6 million. That’s one great deal.

You might have heard that there are traditional IRAs and Roth IRAs and not know which is best for you.

Let me reassure you: Whether you choose a traditional IRA or a Roth IRA, you won’t go wrong. Both will grow your money nicely for retirement because the two accounts are set up to keep Uncle Sam away from your money during the years you will be saving. Without having to pay taxes, the money grows powerfully. That’s unlike savings accounts and brokerage accounts, which are taxed every year at tax time, so the sum can’t grow as well as in an IRA. But if you are undecided, this will help you see whether an IRA or Roth makes more sense for you.

THE TRADITIONAL IRA: This is ideal for people who don’t think they can scrounge up enough money to save. That’s because each year when you plop money into the IRA, the government gives you a tax benefit that year. So if you put $1,000 into an IRA, in effect it will cost you only $750 because of the tax benefit you’ll get. This assumes you are in the 25 percent tax bracket, although the tax benefit could be higher or lower based on your income.

Make sure before opening an IRA that your income qualifies for the tax deduction. If you don’t have a 401(k) or other retirement savings plan at work, you don’t have to worry about income limits. If you do, the cutoff is $69,000 of modified adjusted gross income for singles and $115,000 for couples. See www.irs.gov/Retirement-Plans/IRA-Deduction-Limits.

THE ROTH IRA: Let’s say you are in the opposite situation as the person struggling to come up with savings for an IRA. Your income is solid, and you are looking forward to it climbing nicely over your lifetime. You are starting to worry about paying high income taxes down the road because you know the federal government is running a massive deficit and is likely to increase taxes to fund it. Then, the Roth is one sweet deal because no matter what you accumulate, you won’t have to pay taxes on it.

People can open Roth IRAs only if their incomes are below a certain level: For 2013, that’s $188,000 of modified adjusted gross income for couples and $127,000 for singles. So if your income is creeping close to those levels, make haste and save the maximum $5,500 now — or $6,500 if you’re over 50.

CONTRASTING THE TWO: Remember, the beauty of both accounts is that during your working years, you earn money in either account free of taxes, so the money can mushroom. The difference comes either on the front end or the back end of your saving years. With the traditional IRA, you get a special tax benefit each year when you plop money into the IRA. But when you retire, you have to pay taxes on withdrawals.

With the Roth, there’s no tax benefit when you plop money in, but in retirement you don’t have to share a cent with Uncle Sam.

To open either, go to a mutual fund company or brokerage firm. An easy starter mutual fund would be known as a “balanced fund.”

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