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Traditional vs. Roth IRA

notebook comparing pros and cons of traditional and roth IRAs

Traditional Individual Retirement Accounts (IRA’s) were created in 1974 and are owned by nearly 36.8 million U.S. households. Roth IRAs were created during the Taxpayer Relief Act in 1997 and are owned by 26.3  million U.S. households.

Both are individual retirement accounts, but are quite different in how they work.

Which Should You Choose?

The primary difference between a Roth IRA and a traditional IRA is the tax treatment. When you contribute to a traditional IRA, the contributions are tax-deductible. When you withdraw from a traditional IRA during retirement, the withdrawn amount is taxable. The reverse happens with a Roth IRA.  Contributions are NOT tax-deductible, while the withdrawals during retirement are tax-free.

Traditional IRA:
  • Contributions = tax-deductible
  • Withdrawals = taxable
Roth IRA:
  • Contributions = not tax-deductible
  • Withdrawals = tax-free

Contributions to a traditional IRA are tax-deductible up to a certain limit. Withdrawals from a traditional IRA are taxed as regular income, but if taken before the age of 59½, you may incur a 10% federal income tax penalty. Under the SECURE Act, once you reach age 72, you are required to take the minimum distributions from your traditional IRA. You can continue to make contributions to your traditional IRA past the age of 70½ as long as you meet the income requirement.

Income Restrictions

Contributions can be made to a traditional IRA by anyone who has earned income. Whether or not that contribution is fully tax-deductible will depend on your income and whether or not your spouse (if married) is covered by their employer-sponsored retirement plan.

With a Roth IRA, there are income-eligibility restrictions.  In 2021, those who filed as single must have an adjusted gross income (AGI) of less than $140,000 while contributions would begin phasing out at $125,000. Married couples must earn less than $208,000 to contribute and begin phasing out at $198,000. 

Withdrawing Your Earnings

Withdrawing your money from a traditional IRA before you turn 59½ can have penalties. You’ll be required to pay taxes and a 10% early penalty. In a Roth IRA, you can withdraw sums equivalent to your contributions, without tax or penalty, even before age 59½.

Different rules apply if you’re withdrawing earnings. Anything above the amount that you contributed to the Roth IRA will be subject to penalties. You can avoid these penalties if you’ve had your Roth IRA for at least five years and meet one or more of the below requirements:

  • At least 59½ years old.
  • You have a permanent disability
  • You die and a beneficiary or estate withdraws the money
  • Use the money for a first-time home purchase. ($10,000 lifetime max)
If it’s been less than five years, you can still withdraw early and avoid the 10% penalty if you:

  • Are at least 59 ½ years old
  • The withdrawal is due to a disability or financial crisis
  • Someone from your estate or beneficiary made the withdrawal after you’ve died; or
  • The money is used for a first-time home purchase, education expense, or medical cost. ($10,000 lifetime max)

Ask Nebraska Bank

Deciding which type of IRA is right for you can be a daunting task but it plays an important role in your retirement. Our bank representatives are glad to assist you in understanding the differences.  If you have questions about IRAs or you’d like to learn about how you can get started, call or visit one of our branches today!

We look forward to helping you reach your financial goals.

Member FDIC.