To enjoy a relaxed and tension-free lifestyle after retirement, you need to plan it from before. Ideally, most people go for a 401k plan and sometimes it is set up by the company they are employed in. There are other traditional qualified plans too such as IRA, SEP, SIMPLE IRA. However, it is best to opt for Roth IRA because it has a lot of benefits as compared to its counterparts.
Difference between Roth IRA and other plans
When you contribute using traditional retirement plans, it is with before tax money, so that sum is deducted from your taxable income. Contributions to a Roth IRA are done with the amount on which taxes have already been levied. Once you reach the age 59 ½, you can make tax free withdrawals from a Roth IRA, whereas other retirement plans require you to pay taxes on withdrawals.
Advantages of Roth IRA are as follows:
- Since IRA distributions are viewed as ordinary incomes, you will have to pay a higher amount in taxes when you make withdrawals, if there is an increase in rates in the future. Roth IRA exempts you from this condition as the amount deposited has already been taxed.
- Qualified plans allow you to get interest on your principal, and on the sum that would have been taken from you to pay any applicable taxes on your profits. With Roth IRA, the compounding benefits of tax deferral will be leveraged by doing away with taxes on withdrawals. Your retirement savings can grow steadily and you get to keep it all.
- A Roth IRA and its benefits can be passed on to your children (or heirs) in such a way, that they can still receive the advantages of tax free distributions and tax deferred growth throughout their lives. Certain stipulations have to be followed, but overall they can continue to reap the fruits of this IRA.
- When you reach the age of 70 ½, you have to start paying taxes on your IRA, and other qualified accounts. Basically, you are required to withdraw a certain sum from the account as is pre-set by the IRS. This amount is known as the required minimum distribution, or RMD. The annual RMD is filed on tax returns as your income and applicable taxes are calculated based on that amount. There are no RMD requirements when it comes to a Roth IRA.
Thus you can see why a Roth IRA makes much more sense than traditional plans. To know the net worth of your Roth IRA, use a financial calculator to give you a detailed estimate that helps you to plan ahead.