Three Ways a Roth IRA Could Be for More than Retirement

When people think about IRAs, they typically associate them with retirement. After all, that is what they were designed for. However, some investors don’t realize that funds from a Roth IRA can be used for other expenses that may arise before retirement. Below we will explain the three main categories people use their Roth IRA funds for besides retirement.

College Expenses

Student debt is now the second leading consumer debt category in the country, right after mortgage debt. The bill on student debt is even higher than for credit card or car loan debt! With the high interest rates student debt attracts, it can sometimes feel as if student loans will never be payed off.

Luckily, funds from a Roth IRA can be used to pay for school expenses, and some parents use their IRAs as a backup college fund for their child. If the child doesn’t attend college, or they have other means of paying for school, then the parents still have that money for their retirement. Although savers can pull contributions out penalty-free after the account has been open for 5 years, higher education expenses still count as a qualified distribution, so account owners don’t have to worry about paying a penalty if they don’t meet the distribution requirements. Funds can be used for the plan owner, their spouse, their children, or their grandchildren.

First-Time Home Purchase

Another exception for the early distribution rule is for first-time home purchases, builds, or rebuilds. If both spouses own an IRA and are both first-time home buyers, they could each pull $10,000 from their accounts for a total of $20,000 for their new home. The term “first-time home buyer” is slightly misleading, though. As long as one or both spouses have not owned a home for two years prior to the home purchase, they count as first-time home buyers. However, there is a $10,000 lifetime limit to this loophole for each individual, so buyers can’t take advantage of their retirement accounts forever.

Emergency Fund

Instead of contributing to a traditional savings fund, where the interest gained is pennies for every thousand dollars, some people use their Roth IRA as a place to hold and quickly grow an emergency fund. Roth IRAs typically have better returns than savings accounts, but it may take longer to receive the actual funds if an emergency arises. In this case, it’s wise to have 3-6 months’ worth of accessible funds available for short-notice emergencies and save the rest into a Roth. This way, you can still benefit from higher gains and have a bigger retirement account if you don’t end up using the funds in the Roth for an emergency.

While most financial advisors would recommend not touching retirement money until retirement, there are special circumstances that may cause one to consider using Roth funds for other purposes. Always consult a financial expert before moving money around or pulling from your Roth IRA to avoid any unnecessary penalties.

What is the Age Requirement to Contribute to a Roth IRA?

With all of the different age limits and contribution limits on the various retirement accounts, it can be confusing keeping track of everything. Roth IRAs are a bit different than Traditional IRAs, including the contribution age limits. Read on to discover when and how much you can contribute to a Roth IRA.

Minimum Age Limit

Surprisingly, there is not a minimum age limit to Roth IRA contributions. The caveat, however, is that the owner of the account must earn taxable income in order to contribute to one. So, no, you can’t start one for your newborn grandchild. Once they start earning income, however, they can open and contribute to one. Unfortunately, their allowance for household chores doesn’t count as income in this sense. Typically, they will need to prove they were on payroll somewhere in order to count it as taxable income. If you owned a business and included them on your payroll for work they performed for the business, then this is usually deemed acceptable. Always double check with your local financial advisor first before employing this strategy.

Starting a Roth IRA for a teen’s first job is one of the wisest choices they can make with those dollars. Not only will their retirement money grow tax-free, but it can also grow to a couple hundred thousand dollars by the time they reach retirement age. Not to mention, they have the most expendable income at this age due to their lack of bills and other responsibilities. One of the “downsides” to this, however, is that they will have unlimited access to these funds once they reach age 18. If you want more control over when they can access their funds, a trust fund or naming them as a beneficiary on your own retirement account may be better options.

Remember, though, they can only contribute the maximum amount every year ($5,500 for 2018), or up to the amount they earned if it was less than $5,500. So, if they made $3,000 from their part-time fast-food job this year, they can only contribute up to $3,000 into their Roth IRA.

Maximum Age Limit

Unlike Traditional IRAs, there is actually no maximum age limits for contributions to a Roth IRA. As long as you are earning taxable income, you can contribute to your Roth—even if you’re 95! Contribution limits still apply. If you don’t have an income, but your spouse does, they can make contributions with their income into a Spousal IRA for you.

Also, you can make perform a rollover to a Roth IRA at any age, regardless of income. If you want to roll over funds from a Traditional IRA once you reach the minimum age for required minimum distributions on that account, you can. Just be aware that you may need to pay taxes on the funds rolled from a Traditional to Roth IRA, so always consult your financial advisor before making any moves. Due to restricted recharacterization laws, owners are no longer permitted to recharacterize a Roth rollover. Once you roll over, there’s no going back. Just another reason to consult your advisor before moving funds!

What Is the Maximum IRA Contribution for 2018?

Although the IRS has decided to keep contribution limits the same for retirement accounts this year as it was last year, they did raise eligible income levels for Roth IRAs to adjust for inflation and may even help more savers utilize Roth accounts. Here is a quick refresher on contribution limits and income restrictions:

IRA Contribution Limits

For both Traditional and Roth IRAs, savers may contribute up to $5,500, or $6,500 for people 50-years-old or older. Keep in mind, this is the total amount per person. If you have multiple IRAs, you are only allowed to contribute the $5,500 ($6,500) total between all of your accounts. The only exception to this is if you have a Spousal IRA, which allows the primary income-earner to contribute another $5,500 to an IRA of their non-working spouse. Read more about Spousal IRAs here. With the new age of cryptocurrency, you also need to freshen yourself up on the invest opportunities such as Bitcoin in Roth IRA.

Another caveat to retirement accounts is that you may only contribute the maximum amount as long as your income is at or above $5,500 per year. Otherwise, you can only contribute up to what your annual income is. For example, if you make $3,500 this year, you can only contribute $3,500 to a retirement account. Income counts as anything earned from salary, hourly pay, or profits from a small business. Passive income, such as earnings on an investment, do not count as eligible income.

Income Restrictions for Roth IRA Contributions

Since Roth IRAs allow you to pull out money tax-free, the government has issued income restrictions for who is allowed to contribute to these accounts. Here is a breakdown of these limits:

Married Filing Jointly: You may contribute the maximum amount if your combined annual income is less than $189,000. Your contribution limit will start to phase out between $189,000 and $198,999. Couples who earn more than $199,000 are ineligible to contribute to a Roth.

Married Filing Separately: If you are filing separately, but are still legally married, then you may only contribute the maximum amount if you earn $0. Between $1 and $9,999, your contribution levels will start to phase out. People earning more than $10,000 in this category are ineligible to contribute to a Roth IRA.

Single: Single earners may contribute the full amount if they earn less than $120,000. The contribution limits will start to phase out between $120,000 and $134,999. Single earners may not contribute to a Roth IRA if they earn $135,000 or more.

Income Restrictions for a Traditional IRA Tax Write-Off

Income restrictions for the savers tax credit was also slightly raised this year. Here are the new income limitations for receiving a tax break for Traditional IRA contributions:

Married: Married couples can earn up to $63,000 to receive a full tax credit for their IRA contributions.

Heads of Household: The income limit for this category is $47,250.

Single: Single filers may earn up to $31,500 and receive a full tax credit for their IRA contributions.

If you happen to earn more than your category’s limit, you can still contribute to a Traditional IRA. However, your contributions won’t count for a tax credit.

How Much Can You Contribute to A Roth IRA?

Every once and awhile the IRS increases contribution limits or income limits for Roth IRAs. This year, while contribution limits are staying the same, income limits have increased for who is eligible to contribute to a Roth IRA. For 2018, eligible participants may contribute up to $5,500 toward their Roth IRA. If you are older than 50 you can contribute up to $6,500. Contributions can be made anytime between January 1, 2018 to April 15, 2019 to count as 2018 contributions. Since Roth IRA funds are tax-free upon distribution, there are income limits set for who can contribute to these types of accounts. An explanation of these limits is outlined below.

  • Married Filing Jointly. Couples who earn less than $189,000 combined may contribute the maximum amount toward their Roth IRA. Couples earning between $189,000 and $198,999 have tiered contribution limits. Couples earning $199,000 or more are ineligible for Roth IRA contributions.
  • Married Filing Separately. If you are technically still married but have been living apart from your spouse for the past year, you may file separately. If you are filing separately, then you will not be eligible to contribute to a Roth IRA if you make more than $10,000. If you earn $0, you may contribute $5,500, and the amount will phase out between $1 and $9,999.
  • Single. Single filers can contribute the full $5,500 if they earned less than $120,000. This amount will phase out between $120,000 and $134,999. Singe filers are no longer eligible for Roth IRA contributions if they earned more than $135,000.

Earned Income Nuances

Earned income is defined as anything you made from salary, hourly pay, or profits from a small business. Basically, if it’s taxable it counts as earned income. If your earned income happens to be less than $5,500, you may only contribute up to the full amount of your earned income, not the full $5,500. Even if you make no money but your spouse does, you can set up a Spousal IRA and contribute the full $5,500 to both accounts as long as your spouse earns more than $11,000 in a year.

Contribution Strategies

There are a couple of different options when it comes to making contributions. You can contribute the full amount in one payment at any time during the eligible window. Another strategy is what’s called dollar-cost-averaging. This is where you spread your contributions out over the course of the year, whether that’s monthly or quarterly, to average your risks and rewards. By spreading out the contributions you may buy shares when they are priced low or high, but it will average your cost in the end. Since it’s difficult to know when prices will be low, if you contribute all at once, you may be unwittingly buying shares at their highest price point. Dollar-cost-averaging minimizes that risk.

Conversions

When converting funds to a Roth IRA, there are no contribution or income limits. Therefore, if you already opened a Roth account while you were eligible, you can roll over funds from another account into your Roth, no matter the amount. If you are no longer eligible for contributing directly to a Roth, you can use the “backdoor Roth” strategy to benefit from tax-free distributions at retirement. Keep in mind, however, that you will need to pay taxes on any untaxed funds converted and the funds may count as earned income that could bump you to a higher tax bracket. Always consult your financial advisor before converting funds from one account to another.

When Can You Withdraw from A Roth IRA?

Although it’s best to wait until retirement to use your retirement funds, so you fully benefit from the compounded interest made on your funds, there are times when you may need to make a withdrawal to cover an unexpected expense. Roth IRAs are different from Traditional IRAs when it comes to withdrawal rules, so you will want to understand to rules and regulations related to Roth IRAs before taking out funds. Taking too much, for instance, could result in additional taxes and penalties. Here is a basic outline explaining when you can withdraw, and how much, from a Roth IRA.

Before age 59 ½

If you are younger than the age of retirement, you can still take withdrawals, but you will be limited on how much you can take. Roth IRA owners are allowed to make withdrawals on their contributed funds tax-free and penalty-free at any time. However, withdrawals on earnings will be subject to both taxes and penalties. For instance, if you have only had your account for one year, you made $5,000 in contributions, and it appreciated to $5,200, you could only withdraw the $5,000 without taxes or penalties.

If you are planning on withdrawing more than just your combined contributions, there are a few points to keep in mind. First, the five-year rule may save you from having to pay penalties or taxes. If you have had your Roth IRA account for more than five years, you won’t have to pay a penalty on your earnings withdrawal. Below age 59 ½, you will still be subject to paying taxes on your earnings withdrawal unless you meet any of the following criteria:

    • You use the funds for a first-time home purchase—up to $10,000 lifetime maximum
    • You pass away or become disabled
    • You use the funds to pay for unreimbursed medial expenses exceeding 10% of your AGI (7.5% for 2017-2018)
    • You use the funds to pay for medical insurance after losing your job
    • You use the funds to pay for higher education tuition for you, your children, or your grandchildren
    • You use the funds as a qualified disaster recovery assistance
  • The withdrawal is part of a substantially equal periodic payment plan—lasting for at least five years.

If you have had your account for fewer than five years, then you will still be subject to taxes, but not penalties on your earnings if you meet the above requirements.

Ages 59 ½ to 70

Again, Roth IRA plan holders can take distributions on their contributions at any time. However, within this window of time, you may be subject to taxes but not penalties on earnings if you have had your account for fewer than five years. After age 59 ½, if you have had your account for more than five years, you can take withdrawals on earnings without any taxes or penalties.

Age 70 ½ and older

If you have had your account for fewer than five years, withdrawals on earnings will be subject to taxes but not penalties. If you have had your account for more than five years, then you can withdraw earnings without paying any taxes or penalties.

Can Roth IRAs Be an Option for Teenagers?

When people imagine saving for retirement, generally the idea that people have is that you can’t start saving until you’ve landed a steady full-time job that has a retirement plan tied to it. In reality though, the earlier you can start saving the better off you’re going to be. You’ll save more money for retirement, and you’ll learn a lot of different life skills that can be used within other aspects of your life.

When investing in an IRA, it is important to build up good saving habits so you can make the maximum contribution each year. By learning how to save like this at a younger age, teens are more likely to implement smarter saving habits in their own lives. This is a great way to learn responsible spending rather the impulsive spending. Another good lesson that Roth IRAs can teach is about basic compounded interest. This is an incredibly common interest that banks and other financial institutions use. It is what’s used in other savings accounts and loans as well.

If you know how IRAs work earlier on, it is a lot easier to catch mistakes further down the road. Managing an IRA can teach teenagers how to keep track of their money and how it is changing over time. By learning to take care of your retirement funds, teenagers can also start good habits for their accounts if they decide to get a credit or debit card down the road. They can also learn how to prepare other savings for college or paying off college before they actually get to college. This is smart if they are trying to pay of student loans right after college.

Along with those life lessons, there is a huge increase in the amount of money you’ll have at retirement. If a teen were to start investing the maximum contribution in a Roth IRA at the age of 19, they could potentially be increasing their retirement fund by more than a third of a million dollars. And there isn’t anything stopping you from investing even earlier to get a bigger head start. It’s especially good if they learn other ways to invest their money at a young age so when the opportunity becomes available, they can have other opportunities available to them.

Starting a Roth IRA may seem intimidating at first. However, there are so many ways to learn how to navigate through the accounts, and there are people that want to help you invest your money in the most positive way possible. Even if you’re starting off small, the funds you earn from a part time summer job could be what eventually sets you up to live comfortably at your retirement. It is important to remember that the money you’re contributing towards your retirement should stay there until after you’re 59 ½ years old. Early withdraws have a penalty and you’ll be losing money, so it’s better to have a separate emergency fund to not have to worry about that penalty.

Consider a Roth Conversion if You Are Worried about Retirement Taxes

When you are investing in your retirement, it is important to put it somewhere that will help you save money in the long run. Many people are currently investing in Traditional IRAs where they invest their tax deferred money now and then pay taxes on the withdrawals when the time to retire comes. Another option that may be beneficial to consider, however, is the Roth IRA. Both options offer different benefits, but depending on a few personal factors, one may prove more beneficial to you than the other.

While Traditional IRAs relieve some financial burden more immediately by allowing tax-deferred contributions, taxes will still be collected upon distribution. For some people, this may not be the ideal situation as it’s harder to predict where you’ll stand financially when the time to retire does come. Not only that, traditional IRAs have a required minimum distribution once a certain age is reached. On the opposite end of things, Roth IRAs take taxes out when the contributions are made, and then they are distributed tax free. Roth IRAs also do not have a required minimum distribution age, which is a good way to generate familial wealth.

If you are looking to open a Roth IRA but you are already investing in a Traditional IRA, you can execute a Roth conversion without having to start a new account and start over. This way you can take advantage of the tax advantages a Roth IRA has. The rules and regulations behind conversions are still fairly open, so there are a lot of different ways to achieve whatever it is you’re looking to do. If you are considering a Roth conversion, it is important to make sure that you evaluate all the different factors that go into it so that you can confirm that making the conversion is what is best for you. Some of those factors might be the taxes, or other costs, and the duration of time that you’ll be investing your money.

There are three different ways to make the conversion to a Roth IRA. The first way is to complete a 60-day rollover. This is where you take out an amount from your Traditional IRA and move it directly to the Roth IRA by writing a check made payable to yourself. This must be done within 60 days, however, otherwise you’ll be penalized and the conversion will not be successful. (Click here to learn more about 401K to IRA rollovers.)

Another way is a trustee-to-trustee transfer. All you have to do with this is tell your Traditional IRA trustee to direct the money from your investment to your Roth IRA trustee and they should take care of the rest. The final way is a same trustee transfer. This is virtually the easiest way to make the conversion as the money stays within the same institution your trustee just moves it from one account to the other. If you decide to do a Roth conversion and you take the steps to accomplish it, all you have to do is sit back and enjoy the benefits of the change.

Roth Conversions — Who, Why, and How

There are many opportunities to help you maximize your retirement investment earnings. One technique many can take advantage of is converting assets from a traditional IRA to a Roth IRA. With a traditional IRA, your yearly contributions are tax deductable now, but you will have to pay income tax on all distributions later on. You will also be required to take a yearly distribution once you reach age 70 ½. With a Roth IRA, you have to pay income tax on your contributions now, but aren’t subject to a tax on withdrawals once you reach age 59 ½. While you aren’t required to take a yearly distribution for a Roth IRA, you still have to leave your funds in your account for at least five years before taking any distributions to avoid penalty, even if you’ve reached the 59 ½ mark. Depending on your income level now and what you expect your income level at retirement to be, a Roth conversion could make sense for you. Below are guidelines to help you decide if you should convert your traditional IRA funds to a Roth IRA.

Who qualifies?

The IRS recently lifted the income cap on Roth conversions, so even high income earners can convert their assets into a Roth. However, just because you can convert doesn’t mean you should. Because you will be taxed on any converted funds coming out of your traditional IRA and won’t be taxed later on distributions from a Roth, it generally makes more sense to convert if you are in a lower tax bracket now than what you expect to be at retirement. If you are in your peak earning years, the taxes you pay on your conversion will be higher than the taxes you would owe at retirement when you start your traditional IRA distributions. If you think you’ll be in the same tax bracket at retirement as you are now but think congress will raise the income tax by the time you reach retirement, it also may make sense to convert to a Roth now.

Why convert?

As explained above, one reason to convert is to save on taxes. Another reason why someone would want to convert is if they were planning on entrusting the IRA to children or grandchildren upon death. This way, the inheritors wouldn’t owe taxes on the funds and could withdraw any time as long as the account met the five year requirement.

Six things to keep in mind

  1. The deadline for converting your traditional IRA to a Roth IRA is December 31st. Don’t confuse this with the deadline to contribute to a Roth IRA, April 15th.
  2. If you need to take a minimum required distribution the year you convert, you must take the distribution before you move any funds.
  3. If you are younger than 59 ½ and use IRA funds to pay for the conversion tax, you will be subject to a 10% fee. It is suggested that you use another source to pay for the tax to avoid unnecessary penalty.
  4. Even though you may qualify for a Roth conversion, there are still income restrictions on direct contributions to the account.
  5. There are no restrictions on how much you can convert or how many times you can convert. If you are going to be in a lower tax bracket for a few years, you can make a conversion each year that doesn’t bump you up to the next tax bracket and save even more on taxes with this method.
  6. Any post-tax funds in your IRA aren’t eligible for conversion.

Converting IRA funds to a Roth IRA may be beneficial to you in the long run, but it is recommended that you talk with your financial advisor about your individual situation before making any final decisions.