Even though tax-deferred Traditional IRAs have been around since 1974 and tax-free Roth IRAs since 1997, you don’t hear a lot about them these days. Yet, for many people, especially those who are self-employed or don’t have retirement plans at work, IRAs still represent one of the best tax-advantaged ways to save for retirement. As long as you have earned income and your total annual income isn’t too high, you can contribute to an IRA every year. While both IRAs allow for tax-deferred growth, only the Roth IRA allows you to withdraw earnings and contributions totally tax-free at age 59½ or older. However, you make after-tax contributions to a Roth. While contributions to a Traditional IRA can be tax-deductible, you will have to pay taxes when you make qualified withdrawals after age 59½. And with a Traditional IRA, you have to start taking annual required minimum distributions (RMDs) at age 72, whereas you never have to take RMDs from a Roth IRA. But you don’t have to choose one or the other. As long as you have earned income and your Modified Adjusted Gross Income isn’t too high, you can open both a Traditional and Roth IRA. However, you can only make a total combined contribution of $6,000 each year ($7,000 if you’re over 50) to your IRAs. And if you already have a Traditional IRA or a Rollover IRA (funded with pre-tax assets you roll over from one or more company retirement plans) you’re not stuck with it. You can use a Roth conversion to move some or all of your Traditional or Rollover IRA assets into a Roth IRA. However, you will have to pay taxes on the converted amount, so it’s important to make sure the conversion doesn’t push you into a higher tax bracket. If you’re not in a hurry, you might want to wait to do it until the next market correction, when the value of your account will have fallen from its peak. And while there’s lots of talk about how tax proposals in Washington could potentially impact the tax benefits of IRAs, these changes will most likely only the wealthiest Americans. If you’re not sure which kind of IRA to invest in or how to complete a Roth IRA conversion in a tax-efficient manner, consider hiring a qualified fee-only financial planner. The fee you pay them for their guidance may pay for itself in the taxes you’ll save both today and down the road.
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