Contributed by: Kali Hassinger, CFP®, CSRIC™
As April 18th approaches, many are focused on the deadline to gather information and file taxes. However, April 18th is also the deadline to make a 2022 IRA contribution! How will you decide between making a Roth or traditional IRA contribution? There are pros and cons to each type of retirement account, but there is often a better option depending on your current and future circumstances. The IRS, however, has rules to dictate who and when you can make contributions.
For 2022 Roth IRA contribution rules/limits:
For single filers, the modified adjusted gross income (MAGI) limit is phased out between $129,000 and $144,000 (unsure what MAGI is? Click here).
For married filing jointly, the MAGI limit is phased out between $204,000 and $214,000.
Please keep in mind that for making contributions to this type of account, it makes no difference if you are covered by a qualified plan at work (such as a 401k or 403b); you have to be under the income thresholds.
The maximum contribution amount is $6,000 if you’re under the age of 50. For those who are 50 & older (and have earned income for the year), you can contribute an additional $1,000 each year.
For 2022 Traditional IRA contributions:
For single filers who are covered by a company retirement plan (401k, 403b, etc.), in 2022, the deduction is phased out between $68,000 and $78,000 of modified adjusted gross income (MAGI).
For married filers, if you are covered by a company retirement plan in 2022, the deduction is phased out between $109,000 and $129,000 of MAGI.
For married filers not covered by a company plan but with a spouse who is, the deduction for your IRA contribution is phased out between $204,000 and $214,000 of MAGI.
The maximum contribution amount is $6,000 if you’re under the age of 50. For those who are 50 & older (and have earned income for the year), you can contribute an additional $1,000 each year.
If you are eligible, you may wonder which makes more sense for you. Well, like many financial questions…it depends!
Roth IRA Advantage
The benefit of a Roth IRA is that the money grows tax-deferred, and someday when you are over age 59 and a half, if certain conditions are met, you can take the money out tax-free. However, in exchange for the ability to take the money out tax-free, you do not get an upfront tax deduction when investing the money in the Roth. You are paying your tax bill today rather than in the future.
Traditional IRA Advantage
With a Traditional IRA, you get a tax deduction the year you contribute money to the IRA. For example, if a married couple filing jointly had a MAGI of $200,000 (just below the phase-out threshold when one spouse has access to a qualified plan), they would likely be in a 24% marginal tax bracket. If they made a full $6,000 Traditional IRA contribution, they would save $1,440 in taxes. To make that same $6,000 contribution to a ROTH, they would need to earn $7,895, pay 24% in taxes, and then make the $6,000 contribution. The drawback of the traditional IRA is that you will be taxed on it someday when you begin making withdrawals in retirement.
Pay Now or Pay Later?
The challenging part about choosing which account is suitable for you is that nobody has any idea what tax rates will be in the future. If you choose to pay your tax bill now (Roth IRA), and in retirement, you find yourself in a lower tax bracket, then you may have been better off going the Traditional IRA route. However, if you decide to make a Traditional IRA contribution for the tax break now, and in retirement, you find yourself in a higher tax bracket, then you may have been better off going with a Roth.
How Do You Decide?
A lot of it depends on your situation. We typically recommend that those who believe they will have higher income in future years make ROTH contributions. However, a traditional contribution may make more sense if you need tax savings now. If your income is stable and you are in a higher tax bracket, a Traditional IRA may be the best choice. However, you could be disqualified from making contributions based on access to other retirement plans. As always, before making any final decisions, it is always a good idea to work with a qualified financial professional to help you understand what makes the most sense for you.
Kali Hassinger, CFP®, CSRIC™ is a Financial Planning Manager and CERTIFIED FINANCIAL PLANNER™ professional at Center for Financial Planning, Inc.® She has more than a decade of financial planning and insurance industry experience.
This material is being provided for information purposes only and is not a complete description, nor is it a recommendation. Any opinions are those of Kali Hassinger, CFP®, CSRIC™ and not necessarily those of Raymond James.
The information contained in this report does not purport to be a complete description of the securities, markets, or developments referred to in this material. The information has been obtained from sources considered to be reliable, but we do not guarantee that the foregoing material is accurate or complete. Raymond James does not provide tax or legal services. Please discuss these matters with the appropriate professional. Conversions from IRA to Roth may be subject to its own five-year holding period. Unless certain criteria are met, Roth IRA owners must be 59½ or older and have held the IRA for five years before tax-free withdrawals of contributions along with any earnings are permitted. Converting a traditional IRA into a Roth IRA has tax implications. Investors should consult a tax advisor before deciding to do a conversion.
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Like Traditional IRAs, contribution limits apply to Roth IRAs. In addition, with a Roth IRA, your allowable contribution may be reduced or eliminated if your annual income exceeds certain limits. Contributions to a Roth IRA are never tax deductible, but if certain conditions are met, distributions will be completely income tax free. Contributions to a traditional IRA may be tax-deductible depending on the taxpayer's income, tax-filing status, and other factors. Withdrawal of pre-tax contributions and/or earnings will be subject to ordinary income tax and, if taken prior to age 59 1/2, may be subject to a 10% federal tax penalty. Links are being provided for information purposes only. Raymond James is not affiliated with and does not endorse, authorize or sponsor any of the listed websites or their respective sponsors. Raymond James is not responsible for the content of any website or the collection or use of information regarding any website's users and/or members.