Withdrawals are subject to income taxation. That means your withdrawals are considered taxable income, and you will be taxed at the rate of the income tax bracket you fall into that year. State income taxes may also apply.
Conversely, Roth IRAs don’t come with tax breaks. Contributions to them don’t reduce your gross income, and therefore your tax bill, in the year you make contributions. However, in general, your withdrawals are tax-free. Therefore, a traditional IRA helps you enjoy tax breaks while putting money into the plan. On the other hand, Roth IRAs helps you mitigate taxes when taking it out.
Differences in Withdrawal Rules
One of the major differences between a traditional IRA and a Roth IRA lies in the way the savings are withdrawn. When you reach age 72, you must start taking certain minimum sums from a traditional IRA. These are the required minimum distributions, or another way for Uncle Sam to take his share of retirement money for public revenues.
With Roth IRAs, the account owner has no mandatory requirements to take any withdrawals during their lifetime. Therefore, individuals with sufficient income from other sources can allow their Roth IRAs to enjoy long-term, tax-advantaged growth.
One similarity that traditional and Roth IRAs share is with the age 59.5 rule. Withdrawals from a traditional IRA before 59.5 are called “early withdrawals.” Apart from income taxes, you would have to pay a 10% penalty on the withdrawn balance. Moreover, this applies to some extent with Roth IRAs. If a withdrawal is taken from a Roth IRA before 59.5, and it includes earnings, you may have to pay income taxes and a 10% penalty. However, say you take out money from a Roth IRA before you are 59.5. So long as your withdrawal doesn’t surpass the amount you have contributed over the years, you are in the clear. Income taxes and the 10% penalty wouldn’t be levied.
Photo Credit Krakenimages