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Saving for retirement is one of those things you know you should do, but why worry about something that’s 30 or 40 years away? That’s a problem for Future You.
If you’re in your 20s and 30s and that’s your stance on stashing cash for retirement, you’re not alone. Lots of young people back-burner saving. After all, you’ve got rent to pay and probably student loan and credit card debt, too. The first few years after graduation, putting money into a retirement account probably feels implausible, unless your salary rivals that of Chicago White Sox catcher Yermin Mercedes’ $570,000.
But here’s a well-kept secret nobody’s told you yet: People of all ages say their biggest money regret is not starting to save sooner. So, if you want to avoid the sharp sting of retirement saver’s remorse later in life, there’s no better time to start than the present.
But it’s not just as simple as deciding you’re going to save; you’ve also got to consider where you should save.
So where’s the best place to stack your hard-earned dinero? When it comes to retirement savings accounts, the Roth IRA is the G.O.A.T., especially for the younger crowd.
What Is a Roth IRA?
If you’re new to the Roth IRA, or IRAs in general, let’s break it down for you: IRA stands for individual retirement account, not your great-uncle or the famed host of public radio’s “This American Life.” There are two types: the aforementioned Roth and the traditional IRA. Each is a powerful tool that helps you get tax benefits while you save (and invest) for retirement.
What’s the difference? Fundamentally, it’s whether you receive tax benefits now or later.
If you said “later,” or when you’ve retired and had decades for your money to grow, a Roth IRA may be the retirement savings account for you. That’s because you fund a Roth IRA with money you’ve already paid taxes on. In exchange, the earnings on the investments inside your account grow tax-free, and you also get to take the money out without paying taxes in retirement, no matter how much it increases in value. Sweet!
On the other hand, contributions to a traditional IRA are tax-deductible. That means your contributions help to lower your taxable income today. But you still have to pay taxes on that money (and any gains it makes) later on.
Here’s how most financial experts recommend you think about a Roth vs. a traditional IRA: If you think your tax bracket in retirement will be higher than it is today, consider going with a Roth IRA. You’re young, you’re likely just starting out in your career and time is on your side. So contributing to a Roth may make the most sense, since you’re probably going to be earning more—and paying more taxes—later in life. Many financial and tax experts also recommend the Roth IRA as a way of avoiding the uncertainty of tax rates in the future.
But if you’re one of those lucky people who is making substantially more now than you think you will in retirement, then perhaps a traditional IRA is right for you.
What Else Makes the Roth IRA So Special?
While the tax benefits are the real selling point of the Roth IRA, it offers other compelling advantages, too.
For starters, you can sock away a tidy sum: In 2021, you can contribute up to $6,000 per year, or your total earned income, whichever is less. Those over 50 can contribute $7,000. Contribution limits are the same for traditional IRAs.
But there’s a big catch with Roths: Not everyone can contribute. Your income level determines how much, or if, you can contribute. In 2021, single filers can make up to $140,000 and still contribute something, even if it’s a reduced amount, to a Roth; if you’re married and file jointly, your maximum earnings can’t exceed $208,000. If your income trumps those caps, you can still contribute to a traditional IRA—or you can do a backdoor Roth conversion to avoid those limits entirely, which if you’re a high earner with a 401(k) at work might be in your best interest anyway.
If you’re thinking, wow, 30 to 40 years is a crazy-long time not to be able to touch my money, here’s the best feature of them all: You don’t have to wait until retirement to access your Roth IRA contributions: You can withdraw them at any time, for any reason, without paying taxes or penalties.
So, say you put in $6,000 a year for three years, then you need to tap those savings because you run into an emergency, like a sudden job loss or illness. You can take that $18,000 out—no muss, no fuss. You’ve already paid taxes on that money, so you’re good to go.
That said, getting out your investment earnings—any money you make from increases in the value of the investments in your account—isn’t so easy. Depending on motivating circumstances, your age and how long you’ve had your Roth IRA account, you may have to pay taxes and penalties on the withdrawals.
It’s worth mentioning, other types of retirement accounts have steep early withdrawal penalties on contributions and earnings, barring certain IRS-approved situations. That’s another benefit of the Roth IRA: It can serve as both an emergency and retirement savings account for a young person who knows it’s important to save but can’t fathom being able to fund both at once.
It’s also important to note there are a few select situations where you can withdraw your Roth IRA earnings without penalties, like a home down payment, costs related to a new child or some healthcare or higher education expenses. Most retirement accounts offer these kinds of features, but Roth IRAs are special: If your first contribution was at least five years ago, you can withdraw even your earnings to pay for these situations tax-free. This isn’t true of any other IRA.
Now, this so-called “easy access” comes with a caveat: It’s generally not a good idea to withdraw money from your retirement account early. Nor should you think of a Roth IRA like a savings account. The long-term potential returns on the money you invest today could be worth keeping your savings in a retirement account as long as possible. Average investment returns over decades mean that every $1 you take out at age 25 could have grown to $16 by retirement. That has the potential to add up to some serious savings, which is why it’s so important to have separate emergency and retirement funds if you can.
The TL;DR of Roth IRAs
If you’re young and just starting out in your career and you want to save for retirement, the Roth IRA is a great option. The tax advantages are top-notch, and accessing your contributions is as easy as hearing you’ll never be able to retire because you order avocado toast.
If you’re still on the fence about which retirement savings account is right for you, consider talking to a financial professional. Regardless of which account you choose, though, the important thing is to start putting money aside as soon as you can.