A 60-year-old man considers whether to contribute to a Roth IRA instead of a traditional IRA.

A 60-year-old man is considering whether to contribute to a Roth IRA instead of a traditional IRA.

Should You Switch From Pre-Tax IRA Contributions to Roth Contributions?

Imagine yourself steadily contributing to one traditional IRA. This gives you an annual tax deduction. However, contributing to a tax-deferred account comes at the cost of having to pay taxes on any money you withdraw in retirement. Switch to one Roth IRA would reverse this dynamic, leaving you with less capital after paying taxes up front in exchange for tax-free growth and tax-free withdrawals.

As with all tax questions, the right decision depends on your circumstances. The answer here may be that you need to talk to a professional to determine what to do. But in the meantime, here are a few things to think about. (And if you need help finding a financial advisor, consider using this one free matching tool to connect to it.)

Roth IRA vs. Traditional IRA

A traditional IRA is what is called a pre-tax or tax-deferred account. You don't pay taxes on the money until you withdraw it. However, you will owe something income tax on the full balance: your original investment plus any profits.

A Roth IRA is an after-tax account. You won't get a tax deduction for your contributions, but you typically don't pay taxes on the money when you withdraw it. That means your money grows tax-free. A bonus of Roth IRAs is that they are not subject to… required minimum distributions (RMDs), which can increase your tax bill in retirement. (Remember, A Financial Advisor may be able to help you navigate RMDs and create a plan to limit your tax liability in retirement.)

Both types of IRAs have the same benefits annual contribution limits. In tax year 2024, you can contribute up to $7,000 to your IRAs, plus another $1,000 if you are age 50 or older. For tax year 2023, the IRS limits contributions to $6,500, plus the additional $1,000 if you are 50 or older.

Opportunity cost: a key issue

There are potential opportunity costs associated with contributing to a Roth IRA, especially later in life.

So if you're 60, does it make sense to switch to Roth contributions?

Opportunity cost is an important part of this. When you invest using a Roth IRA, the money you pay in direct taxes is capital you could otherwise have invested. This gives traditional IRAs potential growth that can offset the tax benefits of the Roth IRA.

For example, suppose you invest $500 per month in a new Roth IRA. Over ten years, at the average 10% return of the S&P 500, this account would grow to about $102,000.

But these contributions actually require $600 per month: the $500 you invest plus the $100 you pay in taxes on that money (assuming a 20% tax). effective tax rate). With a traditional IRA, you don't pay those taxes up front on the money, allowing you to invest the extra capital. This would give you $600 per month, which, if invested in the same account, would grow to about $123,000 (under the same assumptions). However, after paying taxes in this example, you would likely get less than if you had contributed to a Roth IRA.

“Moving to Roth contributions at age 60 is a complex decision. Starting a new portfolio later in life raises questions about the trade-off between potential growth and the time horizon for withdrawal,” said Dutch Mendenhall, CEO of RAD Diversif i ed.

Among other things to consider, Mendenhall recommends thinking about what type of retirement you want. What benefits do you see from switching and how can you balance those long-term gains against your short-term goals? And how does this affect your pension? real estate planning?

(But if you need an expert opinion on what type of IRA you should have, consider talking to a fiduciary Financial Advisor Today.)

When do you need the recordings?

Roth IRAs and conversions to Roth IRAs (more below) are subject to what the five-year rule. With this rule, you must wait at least five years before you can withdraw money, otherwise you will have to pay a 10% penalty plus taxes. So if you plan to start using a new Roth IRA before age 65, this strategy has its limitations. However, waiting also gives you better chances of long-term account growth.

When will you get a higher tax rate?

If you expect to have a higher income in retirement than you do now, contributing to a Roth account may be a wiser strategy. In that case your tax bracket retirement will likely be higher than it is now, so you'll save more by paying your taxes at today's lower rates.

A traditional IRA, on the other hand, may make more sense if your situation is reversed. If your income today is higher than when you retire, you may be able to save more by using the tax deduction today and pay income tax on the money later if you're in a lower tax bracket.

This makes Roth IRA contributions difficult for someone approaching 60. At this point in your career, you have probably reached your peak income and maximum tax bracket. If you switch to Roth IRA contributions, there's a chance you'll pay more in taxes today than you will in a few years. (And if you need help making decisions like these, consider talking to one Financial Advisor.)

Roth Contributions vs. Conversions

Switching from contributing to a traditional IRA to a Roth IRA may give you more flexibility in your retirement.

Finally, it's worth considering whether you should do a full Roth conversion rather than simply switching to Roth contributions.

With a Roth conversion, you would move your existing $1 million IRA portfolio into a tax-free Roth IRA portfolio. This is good for growth because $1 million grows faster than $8,000 (the IRA contribution limit for savers age 50 and older in 2024). You also have your money in one portfolio, after taxes, which is not subject to RMDs.

Keep in mind that you'll have to pay taxes on that entire $1 million all at once the year you make the conversion. That's a lot of income tax at once, and if you do have that money on hand, you might be better off putting it in a separate portfolio to grow on its own.

You may also consider splitting the $1 million into a series of Roth conversions over the next few years to avoid having to convert the entire amount in one year. This can help you prevent your income from ending up in the top 37% tax bracket. (And if you need more help assessing whether a Roth conversion is right for you, Consider working with a financial advisor.)

In short

Whether you should switch to Roth IRA contributions depends on your current and projected tax status. As you approach age 60, chances are you'll be better off continuing to contribute to your IRA, but the answer is completely situational. You'll want to evaluate your unique financial situation and possibly seek the help of an expert to determine if switching is a suitable strategy for you.

IRA Management Tips

While we're talking about traditional IRAs versus Roth IRAs, there are several types of individual retirement accounts for which you may be eligible. Also save the annual contribution limits Please keep this in mind as these limits may change from year to year.
a Financial Advisor can help you draw up a comprehensive retirement plan. Finding a financial advisor does not have to be difficult. SmartAsset's free tool connects you with up to three vetted financial advisors serving your area, and you can have a free introductory meeting with your advisors to decide which one you think is right for you. If you're ready to find an advisor who can help you achieve your financial goals, start now.

The mail I'm almost 60 and have $1 million in my IRA. Should I Switch to Roth Contributions? appeared first on SmartReads from SmartAsset.