The Roth IRA is particularly useful for hands-on investors and the
self-employed, but almost everyone can benefit from opening and fully-funding a
Roth IRA.
A Roth IRA is a legally tax-sheltered savings and investment account.
Qualifying individuals can put up to $4,000 per year into their Roth IRA's, and
all money invested is allowed to grow completely tax-free.
Whereas a traditional IRA features the benefit of tax-deductible contributions,
a Roth IRA uses after-tax money. However, withdrawals from a traditional IRA,
which can begin at age 59 1/2, are fully taxed at the accountholder's personal
income tax rate, whereas withdrawals from a Roth IRA are 100 percent tax-free.
This means that if a person began saving $4,000 per year at age 22 and earned
an average annual return of 9 percent, she could retire at 59 1/2 with over $1
million in her Roth IRA--and the government wouldn't see a dime!
It is also important to note that while investment earnings cannot be withdrawn
from a Roth IRA until age 59 1/2 without substantial penalty, (except in
special cases, such as a first-time home purchase), the principal put into a
Roth IRA can be taken out at any time for any reason. This gives the Roth IRA
more flexibility than most other retirement accounts.
Income Restrictions For Using a Roth IRA
So what's the catch? There really isn't much of one, unless you don't earn any
income or simply make too much money in the eyes of the government.
"Earned income," as defined by the IRS, refers only to wages, salary,
and self-employment earnings.
People who earn less than $4,000 by these measures are unable to take full
advantage of a Roth IRA--a person can't invest more into his account than he
earns in a given year.
On the other end of the financial spectrum, individuals who make more than
$95,000 or married couples filing jointly who make more than $150,000, (as
determined by "MAGI" or Modified Adjusted Gross Income, a complex
formula created by Congress to prevent abuse of Roth IRA's by the wealthy),
face a sliding scale of restrictions.
Ultimately, individuals who earn more than $110,000 or married couples with
income in excess of $160,000 are completely unable to use Roth IRA's, however,
if your income should ever reach such lofty levels, any prior investments into
a Roth IRA remain tax-sheltered.
It's also important to note that couples who make less than $150,000 are
allowed to invest up to $8,000 into a joint Roth IRA, even if only one spouse
works outside of the home.
Investment Strategies Within a Roth IRA
Although most commonly invested in stocks, bonds, or mutual funds, money within
a Roth IRA can be invested in almost anything, including real estate. One asset
class that should be avoided is municipal bonds.
This is because the primary advantage of municipal bonds is their tax-exempt
status, and since all investments within an IRA are tax-exempt, capital would
be better allocated in securities that are normally taxable, and thus offer
higher returns than municipals.
Roth IRA's are great for hands-on investors who like to engage in active
trading because there are no capital gains tax consequences within an IRA, and
the higher short-term capital gains taxes on securities held for less than one
year often take a serious bite out of trading profits in non-tax-sheltered accounts.
However, certain investment products and strategies favored by active traders,
such as options and shorting stock, are prohibited within IRA's, with the
exception of writing covered calls.
The Ownership Society
Finally, it is important to note that if your employer sponsors a retirement
plan such as a 401(k), you are still eligible to open and manage your own Roth
IRA, whereas you are not allowed to have both a 401(k) and traditional IRA.
This is yet another advantage that makes the Roth IRA right for almost
everyone.
So if you haven't already opened a Roth IRA, you probably should. The maximum
annual contribution goes up to $5,000 in 2008, and with defined-benefit
pensions on the decline and the future of Social Security uncertain,
self-directed retirement vehicles like the Roth IRA may be the only way for
today's workers to retire comfortably.
The power of compound interest means that beginning to save while you're young
makes a huge difference--but it's never too late to start. The law even allows
people age 50 and over to make special "catch-up" contributions to
their Roth IRA's.
And best of all, unlike Social Security and many corporate-sponsored retirement
plans, you are the owner of your Roth IRA. Not only can a Roth IRA provide for
a comfortable, potentially luxurious retirement for you and your spouse, but
also something to pass on to your family or favorite charity.
While there are certainly both pros and cons to the proposed "Ownership
Society," the Roth IRA is virtually all positive.
William Smith the author provides additional financial information on many subjects as well as the secret to his success in the market along with 5 Free power stock picks emailed daily so grab your Free subscription on his website at Roth IRA (All is Free)
Article Source: DesireToRetire.com