Good Reasons to Contribute to a Roth IRA

In many cases, a Roth IRA is the right choice. For example, Roth IRA contributions are likely preferable to saving via tax-deferred accounts if:

  • You think there’s a meaningful chance that you’ll have to spend the money in the not-so-distant future. (Remember, Roth IRA contributions can be withdrawn free from tax and free from penalty at any time.)
  • You think your marginal tax rate will be higher in retirement than it is now.
  • You think your marginal tax rate will be approximately the same in retirement as it is now, and you want to take advantage of the fact that Roth IRAs do not have required minimum distributions (RMDs).
  • You have no idea how your tax bracket in retirement will compare to your current tax bracket, so you’re “tax diversifying” by using some Roth savings and some tax-deferred savings.
  • You’ve maxed out your 401(k) and you earn too much to be able to make deductible contributions to a traditional IRA.
  • The investment options in your 401(k) are terrible, and you’ve already contributed enough to get the maximum employer match.
(For reference, the above list is not meant to be exhaustive. There are other, less common reasons why you might want to contribute to a Roth. But I think that covers the major ones.)

Not-So-Good Reasons to Contribute to a Roth IRA

There are also, however, some commonly-cited yet unconvincing arguments for contributing to a Roth IRA, including:

  • “Tax-free” is better than “tax-deferred.” It certainly sounds better. But the commutative property of multiplication tells us that paying, for example, a 25% tax now leaves you with the same after-tax amount as paying a 25% tax later. So unless you expect your marginal tax rate to increase between now and retirement, “tax-free” (via a Roth) is no better than “tax-deferred.”
  • You’ll pay less tax with a Roth than with tax-deferred savings. This is usually true, but that’s irrelevant. All that matters is how much you have left after paying the tax. And, as explained above, if the tax rate is the same, it doesn’t matter whether you pay it now or later.
  • Tax rates will increase in the future. If this is true, it is relevant, but it’s not a sufficient reason to prefer Roth contributions to tax-deferred contributions. Even if legislative tax rates go up, your marginal tax rate could be lower in retirement than it is now if your taxable income goes down dramatically when you retire — as is the case for many people.

 

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