Can't Afford To Save For Everything At Once? A Roth IRA May Make Life Much Easier
Most experts recommend that every American have an emergency fund worth at least six months' of income or expenses. But it's hard for those same Americans to save up that much — while also saving for things like retirement and college costs. So, what if you could save for all of them at the same time and with one vehicle? Here's how you can do just that with a Roth IRA.
What is a Roth IRA?
This version of an Individual Retirement Account is similar to its counterpart, the traditional IRA, in that it has an annual limited of $5,500 in contributions (in 2018) and rules about how money can be invested. However, it shares some key differences from a regular IRA.
The biggest difference is when you get the tax benefits from the savings. A traditional IRA is deducted from most people's income before taxes are figured, making the tax benefit immediate. But you pay taxes on all withdrawals when you retire. A Roth IRA, on the other hand, doesn't lower your taxes now. Instead, appropriate withdrawals are tax-free when you take them out.
How Can it Be a Savings Vehicle?
Roth IRAs are intended as a retirement vehicle, and they work well as part of a retirement portfolio due to being tax-free. However, you can also use them as an emergency fund. This is because you can withdraw up to the amount of your contributions without any tax consequences — for any reason. You can use money for an emergency at home, college costs, medical expenses, or even other investments. Why are the rules so loose? Basically, because you've already paid income taxes on them.
Under certain circumstances, you can even withdraw the earnings without tax consequences after you've contributed for five years. You can then freely use them once you turn 59 1/2. If you're younger, you can also use those earnings to become a "first time home buyer" or if you become disabled.
What Should You Do?
A Roth IRA should be part of a complete portfolio of retirement plans, so talk with a certified public accountant to learn more. The tax benefits, for instance, may be more advantageous if received in the current year or it may be better to wait for those benefits — it all depends on your income and future plans. And the rules for IRAs can be a little obscure, so consult with your accountant before investing in one.
But if a Roth IRA is right for your circumstances, it could be an easy way to fill your savings needs even on a small income. Talk to professionals like Vlasac John M & Co to learn more.