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What is a Roth IRA? Tax-Advantaged Retirement Savings, Explained

October 24, 2017

  • A Roth IRA is a great tool in your retirement planning arsenal
  • Your investments will grow tax-free
  • Learn more about a Roth is a great way to plan for the future
3 min read

Congratulations! You’ve made the awesome decision to start planning for your retirement.

Still have questions? We’re here to answer them.

Here’s a quick explainer about what a Roth IRA is and how it works:

What’s a Roth IRA?

A Roth is a type of individual retirement account (IRA). It allows you to invest in stocks, bonds, mutual funds, certificates of deposit, ETFs and index funds, among other investments using the money you’ve already paid taxes on.

With a Roth IRA, you fund it with after-tax dollars, and your earnings and dividends grow tax free — which means you don’t have to pay taxes on the money you take out of your Roth IRA after 59 ½ (with some exceptions, this is the age you need to be to access it without penalty).

How much can I put in my Roth IRA in a year?

Roth IRAs have yearly contribution limits, meaning you can only put in $6,000. However, if you’re 50 or older, you can contribute $7,000.

When can I have access to all the money I invested in my Roth IRA?

There are no required distributions with a Roth IRA, meaning there’s no set date where you must withdraw the money after age 59 ½. If you’ve followed all the rules and the account has been open for five years or more, you can take out cash without paying taxes or penalties.

Your contributions within a Roth IRA can be withdrawn at any time, since you’ve already paid taxes on them. However, your earnings–the amount you’ve earned on your investments– would be subject to taxes and penalties if you are under 59 ½.

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Why don’t I pay taxes on the earnings from my Roth IRA after 59 1/2?

Your Roth IRA is funded with your after-tax dollars. That means that you’ve already paid taxes on the money that you’ve contributed to your retirement account.

Interesting fact: There’s no age limit on when you can stop contributing to a Roth IRA.

Once you’ve funded the account, your earnings grow tax free.

With a Roth IRA, there’s no up-front tax benefit because you’re funding the account with the money you’ve already paid taxes on. But at age 59 1/2, the money is yours — because (you get it) you’ve already paid the taxes on it when you funded the account.

Um, I still don’t get why this part is important.

Having access to cash from a retirement account that you don’t have to pay taxes on can come in extremely handy.

Most of us will want to maximize income in our retirement years, when we’re likely to have scaled back on work or stopped working completely. Even our social security income will be subject to taxes. Having access to cash from a Roth that you don’t have to pay taxes on can come in extremely handy.

Does a Roth IRA offer other potential benefits?

Absolutely.

If you’re under the age 59 1/2, after five years, you can withdraw up to $10,000 for the purchase of a first home without paying any taxes or other financial penalties.

Similarly, you can make withdrawals for qualified educational expenses, and for medical and health insurance costs if you’re unemployed.

Interesting fact: There’s no age limit on when you can stop contributing to a Roth IRA.

Are there penalties I should be aware of?

Yes. While contributions within a Roth IRA can be withdrawn at any time, since you’ve already paid taxes on them, you may be subject to penalties and taxes on earnings withdrawn prior to age 59 ½, and for accounts open for less than five years.

So why it is called a Roth?

Good question! It’s named after William Roth, a senator from Delaware, who died in 2003. He helped sponsor the legislation that created these accounts in 1998.

As a final note, it’s always best to consult with a tax advisor or accountant for any questions you have about IRAs or 401(k)s.

Are you ready? Get Stash Retire now.

By Jeremy Quittner
Jeremy Quittner is the senior writer for Stash.

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