
In my opinion, many investors will need to open a Roth IRA for their retirement. Here are 3 reasons why.
1) To Fund Your Retirement
Sorry to state the obvious. If you do not realize this already:
You are on your own with your retirement.
Let that sink in. You (likely) will not be getting a pension.
If you are getting a pension, be grateful.
It is fixable, but Social Security is projected to be insolvent around 2033. Here, insolvent does not mean bankrupt. It means the reserves will be gone. Its funding will be just from contributions made by The Average Joe’s currently in the workforce. Estimates are that retirees would receive about 76% of their benefits. 1)
If this is not addressed, be prepared for an extremely expensive haircut.
May the Odds Be Ever in Your Favor to take advantage of all the tools that are available to you. I believe if your employer provides a 401(k) plan you need to participate in it. If they offer an employer match, contribute at least enough to get the match.
Employees can contribute $23,500 pre-tax into their 401(k) plan in 2025. For employees aged 50 and older they can contribute an additional “catch-up contribution” of $7,500 for a total of $31,000. Finally, employees aged 60-63 can contribute an additional “catch-up contribution” of $11,250 for a total of $34,750. If you are eligible, take advantage of these “catch-up contributions.” You will thank yourself later.
Younger employees should inquire if their employer offers a Roth 401(k) plan. In 2023, about 93% of employers offered a Roth 401(k) plan. However, only about 21% of employees took advantage of it.2)
The difference here is that contributions to the Roth 401(k) plan are not pre-tax. The contributions are with after tax dollars.
2) To Create Tax-Free Income
Here is the reality. Distributions from your 401(k) plan are taxed as ordinary income. There is no way of getting out of this. Currently taxpayers need to start their required minimum distribution (RMD) at age 73. This will increase to age 75 in 2033.
The RMD starts at 4% of the market value of the account from the prior December 31st. This percentage goes up every year as this is based on a life expectancy table.
Similarly, if you have a Traditional IRA the RMD starts at age 73, which is also taxed as ordinary income.
Additionally, Social Security benefits are taxed as ordinary income. The ‘good news’ is that the most you can be taxed on is 85% of your Social Security benefit. The other is that Connecticut gives Connecticut residents a tax break on Social Security benefits to more modest income taxpayers.
If you are fortunate enough to be collecting a pension, you guessed it, this is also taxable as ordinary income.
In retirement, your 401(k) plan, Traditional IRA and Social Security will be taxable as ordinary income. Wouldn’t it be nice to have funds you can access and not pay any income tax on it?
That is going to be your Roth IRA.
Unlike the 401(k) plan and a Traditional IRA, the Roth IRA contributions are made after-tax. Said differently, you are paying the income tax upfront with a Roth IRA.
Investors can contribute $7,000 to a Roth IRA in 2025. If you are aged 50 and older, you can make a “catch up contribution” of an additional $1,000 for a total of $8,000.
To contribute, you need to have earned income of at least the amount you are contributing. Earned income is from your earnings as an employee or as a self-employed individual.
There are income limitations to be eligible for a Roth IRA. In 2025 a single individual whose modified adjusted gross income (MAGI) is less than $150,000 a full contribution is allowed. With MAGI between $150,000 and $165,000, a partial contribution is allowed. With MAGI over $165,000 no contribution is allowed.
In 2025 for a married couple filing a joint income tax return whose MAGI is less than $236,000 a full contribution is allowed. With MAGI between $236,000 and $246,000, a partial contribution is allowed. With MAGI over $246,000 no contribution is allowed.
If your income is above the levels mentioned above, it is possible you can still have a Roth IRA. This is known as a ‘backdoor Roth IRA.’
However, exercise caution here. If you do not have any current IRA’s, fund an IRA as a nondeductible IRA. Then, convert this into a Roth IRA. This means taking this nondeductible IRA contribution out and converting it to a Roth IRA. As the contribution was nondeductible, and if there were no earnings on this, there should be no taxable income on this transaction.
If you currently have IRA’s, the backdoor Roth IRA may not be as beneficial to you. The IRS has a so-called Pro Rata Rule. If you have both pre-tax and nondeductible (after-tax) IRA’s you need to pro rate on the backdoor Roth IRA conversion. This will cause a portion of the conversion to be taxable. For most folks, it is not worth the exercise.
There is no age limitation on who can contribute to a Roth IRA. If you have the earned income and your income is below the MAGI limits listed above, you are eligible to contribute.
This might cause you to consider working part-time in retirement.
With the Roth IRA however if the account is open for at least 5 years and distributions are made at over age 59 ½, all the distributions are tax-free.
In my opinion younger investors should open a Roth IRA immediately. If you invested $7,000 a year for 30 years at 10%, you would have over $1.1 million.
And, yes, that would all be tax-free.
This is a hypothetical illustration and is not intended to reflect the actual performance of any particular security. Future performance cannot be guaranteed and investment yields will fluctuate with market conditions.
3) The is no RMD Requirement
To clarify, there is no RMD requirement for Roth IRAs for the account holder or the surviving spouse during their lifetime. There is an RMD requirement for non-spousal beneficiaries. The most common are children and grandchildren. Others could be siblings, other relatives, or friends.
With no RMD requirement for the Roth IRA account holder and their surviving spouse, this extends their investing runway. Not having to take RMDs at age 73 and going forward is huge. If you do not make any distributions, this allows all the funds in the Roth IRA to continue to grow tax-free.
Back in the day, a non-spousal beneficiary could take their RMD over their lifetime. This was known as a ‘stretch IRA.’ Stretch the distributions out as long as you can. Yes, the good old days.
The SECURE Act of 2019 changed this. It now requires distributions to non-spousal beneficiaries to be paid out over 10 years. While it was reduced to a decade, all is not lost here, however.
Assume the husband funded his Roth IRA and it met the account was opened for at least 5 years and he was over age 59 ½. If he, his spouse, or their children were to take a distribution, it would be tax-free. This makes the Roth IRA an awesome wealth transfer tool.
It is important to name a beneficiary and contingent beneficiary.
Married couples will typically name each other as their beneficiary. Contingent beneficiaries are typically your children or grandchildren.
Without naming a beneficiary the tax consequences are more challenging. Without a beneficiary, the Roth IRA would go to your estate. The local probate court would look at your will to determine who gets this asset. This presumes you have a will.
This, however, does not allow the surviving spouse to inherit this account and not be required to take an RMD. Due to the beneficiary being the estate, this account will need to be paid out in 5 years.
Action Item
If you need help with your retirement planning, please call us at (860) 645-1515 or E-Mail Thomas.scanlon@raymondjames.com
1) Forbes.com – March 21, 2024
2) CNBC.com – December 26, 2024
This is original content written by Manchester, CT Financial Advisor, Thomas F. Scanlon, CFP®, CPA.
The foregoing information has been obtained from sources considered to be reliable, but we do not guarantee that is accurate or complete, it is not a statement of all available data necessary for making an investment decision, it does not constitute a recommendation. Any opinions are those of Thomas F. Scanlon and not necessarily Raymond James.
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