Traditional IRA vs Roth IRA - Im new to this

[swtchks98]

Hello~
I used to follow along a little (mostly with WIR) back when it was MSN. I have been away from the boards for a couple years and have been working hard on my debt/savings.
I am going to be debt free with the exception of the house payment (but am working on that).
I would like to open an IRA but am not sure which one to open.

Here is a little info about me:
30 years old, married with 2 kids (10 and 5)
combined we make around $100k/year
I have about $400 a month to contribute toward IRA
I have an EF of $3000 and am still building on it
Husband and I both have 401k accounts

I am not really sure what other information to give that would help.

Thanks!

[yclept]

For whatever amount of money you are willing to declare "down a rat hole" for the next 29 years, I would suggest a Roth over a Traditional IRA. Actually they are both down a rat hole, and by that I mean you vow to not touch it until age 59-1/2 (assuming the laws stay the same).

It all depends upon how long you plan to live and how much money you expect to make from other taxable sources after you retire. It also depends upon tax rates now versus those when you retire. So if you can answer those questions, the choice becomes easy!

The primary distinction between the two is when you pay the taxes.

With a conventional IRA, you get to defer taxes on your contributions (i.e. take them off your taxable income in the year you make the contribution); when you withdraw money after 59-1/2 it will all be taxable (both your contributions and the earnings on them) at your then current tax rate. You have to take distributions whether you need them or not upon achieving a certain age (I think it's 70). When you kick the bucket, the money passed on to heirs is all taxable.

With a Roth you are contributing after-tax money, so you don't get to subtract it from your gross income. When you withdraw (after 59-1/2), none of the money is taxable, not your contributions (which have, of course, already been taxed in the year you made them) nor any gains they have achieved over the years. My personal experience was that for the first few years, contributions made up the majority of the value of the Roth, but thereafter the contributions were dwarfed by the gains the previous contributions were achieving. You never have to withdraw anything from a Roth that you don't want to. When you go-under the full value of the Roth goes to your heirs tax free.

This is all based on current law. Obviously the gobement be the gobement and can change stuff whenever they change it. But if they try to change this stuff, a lot of us will be cleaning our rifles and shotguns and otherwise getting them ready for action.

So, if you expect to be poor in your retirement, you're probably better off with the conventional IRA as your tax rate is likely to be low or non-existent. If you expect to have significant taxable income in your retirement (like from those 401k accounts) you'll be better off with a Roth since withdrawals from it won't increase your tax burden (at what will, no doubt, be higher tax rates). Your heirs are better off with the Roth.

One other consideration in favor of the conventional IRA is that by not paying taxes on the contributions when you put them in, you have the benefit of earning on that money for the investment period.

Money contributed now is worth a lot more than money contributed later (due to compounding). Later you might need to switch some of this money to other purposes such as a college fund, but whatever you can put in during these early years will still be compounding for you in the interim. It is not an either/or decision, you can have both a conventional and a Roth IRA (though the contribution limits do not allow maximum contribution to both in the same year -- the limit will restrict the amount you can put in the combined accounts).

If you can do it, you will be glad later on that you did. I look back at my contribution years as having been a minor inconvenience. I'm sure glad the money and its gains exist now. I went with the Roth. My post-retirement taxable income has turned out to be such that either one would have probably served me equally well (which is to say I don't have deluges of taxable post retirement income that would have made the Roth clearly a better decision). I am glad that there is no arbitrary age at which I have to start taking money out. And I'm sure my heirs will be thrilled at some point in time to not have to pay any tax on inheritance.