Remember back when you were a child and your parents said you couldn’t do something and it made you really really want to do it? Well, that’s how many people approach the Roth IRA because after you start making more than $95,000 the amount you can contribute to a Roth decreases. Once you earn more than $110,000 per year, you can no longer contribute $4,000 (in 2006-7) towards your Roth.
Well, just because you can’t do something is no real reason why you should do it when you can, let me go into the reasons why you should do it.
By diversification, I mean diversification from a tax perspective. Most employees will have the option of participating in a tax-deferred retirement plan, a 401k or 403b or something like that, where you can contribute and deduct the contributions from your income. Since we won’t know what the tax rates will be when you retire, you want to have a portion of your retirement assets free from tax – that’s where the Roth IRA comes in.
Earnings Grow Tax Free
When you contribute to a Traditional IRA, you get to start with a bigger amount but that amount is taxed when you withdraw it from the account. With the Roth IRA, it “costs” more to contribute that $4,000, because you are using money that has already been subject to income tax, but all of the earnings are tax free.