Roth or Traditional for me?

[catherine]

Some may know my situation:

Just turned 60
Was financially wiped out in the recession
No 401k
House with some equity and a mortgage
Continuing to pay down debt (DH business loans and DD student loans--will take me 2 more years)
Hope to pay off my mortgage in 7 years (if we continue to live here rather than downsizing)
Make a decent salary, but fall under the Roth requirements



Any thoughts personal finance experts? Roth or Traditional for me?

[cattledog]

I'd go with the traditional IRA. You will probably save more money in taxes now.

If you were younger, I would say go for the Roth since there are more advantages (i.e. being able to pull your contributions out without penalty before 59.5, protection against future tax increases, etc.). After the age of 59 1/2, I think the only benefits of the Roth are that you can leave it to your heirs and they don't have to pay estate tax and you aren't forced to take distributions by 70 1/2 as with a traditional IRA. From what you've written, it doesn't sound like that is a concern though?

[Bronxboy]

I'd go with the traditional IRA. You will probably save more money in taxes now.

Have to agree with Cattledog. Doesn't sound like you'll have enough in retirement to end up in a higher tax bracket.

I am of the contrarian opinion that Federal income tax rates are unlikely to increase.

[catherine]

Thank you both!

[Rogar]

I agree that it mostly depends on your expected future tax situation and basically whether you want to pay taxes now or later. Keeping in mind that SS will add to your income at some time. However, there is one advantage of a roth that doesn't get discussed much. Once you pay taxes on it, you are done and don't pay taxes on any gains. With a traditional, you will pay taxes on both the original contribution plus the gains when you withdraw.

[Spartana]

. Keeping in mind that SS will add to your income at some time. However, there is one advantage of a roth that doesn't get discussed much. Once you pay taxes on it, you are done and don't pay taxes on any gains. With a traditional, you will pay taxes on both the original contribution plus the gains when you withdraw.

SS isn't taxed until you have reached $25K in other taxable income (filing single - approx. $50K jointly) so if she keeps her other taxable retirement income at or below that (and don't forget that approx. $10K of a single filers income is reduced with the standard deduction and exemption) then she'll never be taxed on SS. And as you pointed out, unlike a Roth IRA which is never taxed, with a traditional IRA you aren't taxed until that money is withdrawn, and then you are taxed both on the principal and interest of the amount you withdrew - the rest continues to grow tax-deferred until it's withdrawn. So if you take out $10K a year on a trad. IRA, that is all considered taxable income. I have Trad. IRAs rather than Roths because I will be in a low tax bracket when I am old enough to start taking those funds - and then I will only need to withdraw a small amount each year. So I won't have to pay any taxes on it. Another good thing about Roths is that, if a person dies, that Roth can be transferrreed to heirs tax free. Other than an inheritence to a spouse, a beneficiary of an Trad. IRA can't roll over that IRA into a new account. They have to withdraw it all (or in increments) and pay regular income tax on that (although no early withdrawal penalty). With a Roth IRA, the heirs can get it completely tax free - proncipal and all the interest it accured.

[Rogar]

Spartana, Sounds like you have worked this through, therefore I might be in error, but I would understand that the traditional IRA will be taxed at the rate of your marginal income when you withdraw. So I would think there would be some taxes due unless your deductions are greater than income? These are the rates for a person filing as a single.


[2012 Tax Rate Schedule X, Internal Revenue Code section 1(c)]

10% on taxable income from $0 to $8,700, plus
15% on taxable income over $8,700 to $35,350, plus
25% on taxable income over $35,350 to $85,650, plus
28% on taxable income over $85,650 to $178,650, plus
33% on taxable income over $178,650 to $388,350, plus

[Life_is_Simple]

I just found this Roth vs Traditional IRA calculator:
http://www.lpl.com/calculators/RothvsRegular.html

It looks like the main factor is your tax rate when depositing the money, vs your tax rate when withdrawing.

I get the feeling that ROth is better if you are young and in a low tax bracket. IRA is better if you are older and/or in a higher tax bracket.

I came upon this realization when I did some calculations myself in Excel a few weeks ago: If a person has a lot in traditional IRA, knowing that when it comes time to take it out it will all be taxed, it might be a good idea to bump up the Roth a little. This way when retirement hits, there will be a chunk of non-taxable stuff, keeping the overall tax rate down.

That is my opinion, and remember, I am new to this Roth stuff myself, and trying to figure it out :)

[catherine]

Shoot, this is great information, but I'm still confused! I have two days left to get this sorted.

So, I'm thinking, if I make a lot of money now, but expect that I'll have very little money when I retire, maybe I want to do the tax-free thing now rather than later? It would be nice to get a tax deferral $6,000 on my income now, as I'm in a pretty high tax bracket.

Frankly, I'm not anticipating having much money to retire on, but I do plan on working for another 10 years in one form or another.

I think I'm leaning toward traditional.

Thanks so much for the advice

[Mangano's Gold]

So, I'm thinking, if I make a lot of money now, but expect that I'll have very little money when I retire, maybe I want to do the tax-free thing now rather than later? It would be nice to get a tax deferral $6,000 on my income now, as I'm in a pretty high tax bracket.

Frankly, I'm not anticipating having much money to retire on, but I do plan on working for another 10 years in one form or another.
I think you are on the right track here.

[Spartana]

Spartana, Sounds like you have worked this through, therefore I might be in error, but I would understand that the traditional IRA will be taxed at the rate of your marginal income when you withdraw. So I would think there would be some taxes due unless your deductions are greater than income? These are the rates for a person filing as a single.


[2012 Tax Rate Schedule X, Internal Revenue Code section 1(c)]



10% on taxable income from $0 to $8,700, plus
15% on taxable income over $8,700 to $35,350, plus
25% on taxable income over $35,350 to $85,650, plus
28% on taxable income over $85,650 to $178,650, plus
33% on taxable income over $178,650 to $388,350, plus

You are correct about a Trad IRA - it is fully taxable AFTER taking any deductions and excemptions a person qualifies for (a standard deduction and personal exemption for someone under 65 is approx. $10K - $13K for someone over 65). But I was comapring a Trad IRA to Soc Security benefits which are either partially taxed or not taxed at all. Saying that a person who combined SS with a Trad IRA may end up being in the zero % tax bracket (after deductions) if they kept their annual withdrawlas below that amount.

Since there is no income tax on Soc Sec. benefits until your other taxable income combined with one-half (according to the SS tax form on the 1040 forms) of your Soc Sec.benefit reaches $25K - $34K for a single filer. More for joint filers. And than only 50% of your SS is taxable (85% in some cases). So if someone only has SS of $25K (or maybe $50K if you only need to calculate half of your SS benefit) or under, then they pay no taxes. If one-half of your SS combined with withdrawals from a Trad IRA and that is under $25K when combined, then there is no tax on the Soc. Sec portion. If it is over $25K combined, then there is tax on only 50% of the SS benefit over the base amount (see below), not the whole amount. All of this can mean a person in a much lower tax bracket - even those people who can take the standard exemptions and deductions of approx. $10K combined this last year for those under 65 - around $13,000 deduction for those over 65..

From The Fed IRS website:

"Taxable Social Security BenefitsIf your provisional income (all income) is below the base amounts for your filing status, then your Social Security benefits are completely non-taxable.

If you provisional income is between the base amount and the additional amount, then half of your Social Security benefits over the base amount are taxable.

Social Security benefits are not subject to federal personal income tax if the taxpayer's "provisional income" is below the "base amounts" of $32,000 for Married Filing Joint filers and $25,000 for all others. Provisional income is calculated by taking Adjusted Gross Income (without Social Security benefits) plus tax-exempt interest plus half of Social Security benefits

If your provisional income is over the additional amount, then $4,500 (or $6,000 if Married Filing Jointly) plus 85% of your Social Security benefits over the additional amount are taxable.

The taxable portion of your Social Security benefits cannot exceed 85% of your total benefits."

Base AmountsThe following base amounts are used in figuring your taxable Social Security:

Filing Status Base Additional
Single $25,000 $34,000
Head of Household $25,000 $34,000
Married Filing Jointly $32,000 $44,000
Married Filing Separately $0*
Qualifying Widow(er) $25,000 $34,000

[jp1]

My guess is that taxes will go up by the time I'm ready to retire in 20ish years, but it's only that. A guess. As such, personally I'm hedging my bets and doing both right now. I'm maxing out my 401k and also maxing out my Roth. My hope is that between the two I'll be able to keep my taxable income low to $0 at retirement depending on how I juggle my withdrawals. My basic plan is to withdraw from the 401k up to the point that I get bumped up from the bottom tax bracket and then supplement with Roth withdrawals for whatever more I need to live on, if any.

[Rogar]

Spartana, Thanks for the detailed response. Yes, I re-read your original discussion and think I had partly misunderstood what you had written. Mia culpa.

[artist]

Traditional makes more sense to get more bang for your buck. It will reduce your taxes now to help your debt repayment and you can contribute more because of that. There is no tax advantage of the Roth at your age.