Key Points

• The article provides a step-by-step guide on how to start a Roth IRA.
• It begins by explaining what a Roth IRA is and the potential benefits of investing in one.
• The article then outlines the eligibility requirements for opening a Roth IRA and how to choose a provider.
• The authors provide guidance on how to set up the account and make contributions, including information on contribution limits and deadlines.
• The article also covers important considerations when choosing investments for a Roth IRA, such as risk tolerance and diversification.
• The authors emphasize the importance of monitoring the account regularly and making adjustments as needed to ensure it remains aligned with long-term goals.

Are you saving for your future in the most tax-efficient way, possible? If you haven’t heard of a Roth IRA, it’s likely that you probably aren’t.

The most common response we get when we tell people they need to save more for retirement is: “I know, I know. I’ve just got all these other things I HAVE to pay for right next. I’ll start saving eventually.”

What happens next? Eventually becomes a nagging thought in the back of their mind that they keep putting off year after year and sometimes, it’s with good reason, however, more often than not we find that most people don’t save for retirement because they’d rather be more in the moment in life and not give too much thought to the future.

The problem with that is, eventually, we all won’t be able to work. At that time, our happiness and our health will depend on how prepared we are for that moment. Maintaining happiness and health as a senior citizen is incredibly expensive, especially in the United States. For that reason, we must prepare so our goals are easier to accomplish. The earlier we all get started, the easier it becomes. Anyone who tells you to not save in your 20s or 30s isn’t just irresponsible but absolutely negligent.

Maybe you haven’t started saving yet because retirement seems like it’s such a long ways off. Or maybe you’ve dragged your feet because you just don’t know where to start.

We don’t blame you but that doesn’t mean you’re not wrong or that you shouldn’t start immediately.

In this article, we’ll explain…

1. Why someone might want to set up a Roth vs. a Traditional IRA
2. How to set up a Roth IRA
3. Income Limits for Roth Contributions
4. When you might want to save via Pretax Contributions to Retirement Accounts vs. Roth
5. What you should do NEXT.

Hopefully, as a result, we motivate you to get started saving for your future today.

1. Why would someone set up a Roth IRA?

The main reason? The tax benefits.

Roth IRAs grow tax-free which can be a huge benefit to your future so long as you leave the funds in the account until you retire. Let’s say hypothetically if markets return about 10% a year, your money would be expected to double every 7.2 years.

If you contribute $500 a month to a Roth IRA and it returns 10% a year… you’d have over $986,964 after 30 years, $2,655,555 after 40 years, and $4,313,429 after 45 years. That’s a ton of money!

But wait! It gets better. You might think to yourself, “Yeah, but that’s before taxes.”

WRONG.

There are no taxes on growth within a Roth IRA so you’d get to take your money and laugh at the IRS all the way to the bank. It is all yours (so long as you follow all the rules).

What makes this even better? What if 100% of your retirement is in a Roth?

You would owe absolutely ZERO taxes on your retirement income sources (including social security). If you retire before 65 with a boatload of cash in a Roth IRA, you also could access healthcare through healthcare.gov nearly for free because of subsidies for health insurance for low-income individuals (and no taxable income for individuals, like you).

Long story short? A tax-free retirement can be a beautiful thing and there are some really smart reasons to aim for one.

Needless to say, we don’t know what the markets are gonna do and 10% could be way off. This is all purely for educational purposes. Talk to a financial planner before making any big financial decisions (just make sure they’re fee-only, fiduciary).

1. How to set up a Roth IRA

Once you answered all the questions we’re required to ask by Uncle Sam, we’d do a soft credit check to verify your identity. Following this, we’d roll your funds in (or give you the ability to contribute whatever you feel comfortable with) and you’d have access to an online platform where you’d be able to view the portfolio, and trades that we’d place on your behalf and how it’s performed all on one simple dashboard shown below.

All in all, this process probably takes about 5 minutes or less.

Are you looking for a financial advisor? We think that we might be the right one for you. Click here to schedule a complimentary appointment and make sure your next step is a step forward.

3. The Income Limits for Roth Contributions – You can’t contribute to them if you make a good living (unless you know of the backdoor)

Roth IRA’s can play a vital role in your financial future and can help you save for your future and right now, not everyone has access to them. Before starting one up, consider this:

In 2022, the AGI limit for taxpayers who are filing taxes Single or Head of Household is $129,000 to $144,000.

If you file taxes married filing jointly, the AGI limit this year is $204,000 to $214,000. Lastly, if you file taxes married filing separately, the AGI limit is $0 to $10,000.

Keep in mind, that you still have to actually earn income meaning it doesn’t consider dividends, the rent charged to tenants (assuming you’re not a professional property manager), interest payments, or return of principal. If you have a 9-5 job or run a small business, that income can qualify but make sure you’re permitted to make a Roth Contribution before you do.

Alternatively, you can use something called the “backdoor” if you make too much money to get funds into a Roth but the process can get sticky. We’re happy to help you figure out how to use the backdoor to get money into a Roth. Contact us to learn more.

4. When you might want to save via Pretax contributions to Retirement Accounts vs. Roth

When you think about whether to contribute pretax or Roth, it’s important to ask yourself two separate things. What we’ll explain in this section is:

1. Am I in a higher or lower tax bracket than I will be in retirement
2. Am I in a low-income year or a high-income year.

A. Tax Rates Today and Tax Rates in Retirement

Choosing when to do Roth and Pretax Contributions can get tricky because there’s no perfect way to figure out which one is more appropriate at this point in time.

Why? Well, in order to do it perfectly we’d have to know what your future holds as well as the future of the stock market which is impossible.

With that being said, financial planning’s goal isn’t necessary to always be perfect so much as try to get as close to perfect as we can give our limited knowledge of what will happen. I say this jokingly, however, it’d be a lot easier to plan if we knew the future.

The first important thing we can try to forecast is taxes. I’ve included a table below showing the difference in the value of Roth vs. Traditional IRA contributions given future potential tax rates. As you can see, assuming you contribute the same to a Roth as opposed to a Traditional IRA, Roth IRA Contributions benefit you if your future tax rate is at least as high as your tax rate is today.

Why is this important? Because, if you think you’ll be in a much higher tax bracket in retirement, the answer should be obvious; contribute to a Roth IRA (assuming your AGI will be less than the limit in the year of contribution).

Alternatively, if you expect to be in a lower bracket in retirement than you are immediate, contribute pretax.

B. When you earn a lot, defer defer defer. When you don’t, Roth Roth Roth

Some people say “Blaine, I have no clue what kind of expenses I should expect post-retirement AND I don’t trust any forecast of what tax rates could be. What should I do?”

The best answer? Save as much as you can, anyways, and assume the worst-case scenario will happen (markets don’t perform well and tax rates increase).

Still, there could be some validity to what these pessimistic folks have to say. For that reason, there’s more to consider than just what your tax rate is at the time of contribution as opposed to distribution.

For example, some people take a few years off of work when they have a child and as a result, earn less income as a household. This ends up resulting in them paying a lower tax rate during those years than they’d pay had they not taken that time off which creates an opportunity to contribute to a Roth IRA and maybe even do some significant Roth Conversions.

Why? The goal of a proper tax plan is to try and stay in a tax bracket that’s ideal and in doing so save a lot of money on taxes throughout your life.

If you fall well below the top of the 12% tax bracket, it probably makes sense for most people to try and capitalize on that. Don’t defer income; recognize more of it.

Alternatively, if you have a great year (income-wise) and pay well over 25% income taxes on that income, DEFER because the more you can defer, the more affordable your tax bill will come in April which makes life easier to afford.

Here are the 2022 marginal income tax brackets so you can think more about this.

5. What you should do next:

If this all resonated with you and you feel confident about your path forward, look at the chart below and consider your options and how most financial planners organize savings before you move forward.

This chart helps you to understand how the order of operations for savings typically is strategized. Of course, emergency savings, appropriate levels of life insurance and disability insurance as well as paying your basic living costs should be prioritized before savings but this chart helps you to understand how to think about it.

If this all seems foreign to you and way too complicated, we don’t blame you. Most people find taxes incredibly confusing and this is why they hire an expert to help them improve the way they strategize affording their future. The purpose of this article was to help equip you with the knowledge of how to approach saving for retirement with a focus on Roth IRAs, if you aren’t interested in learning and would rather delegate this, schedule an appointment below.