Welcome back for Volume #2 of Wrigley’s Write Up.

This month we will be covering a deceivingly complex topic, “Traditional vs. Roth: Is it That Simple?”

Now, most people we talk to have at least heard of the different terms, but the problem is that there are now so many ways to describe these two simple things that most people just get fed up with trying to figure it out. First, let’s list some of these.

Traditional Contributions are known by far too many terms, which is where the confusion begins. Including but not limited to: Traditional, Pre-tax, Qualified, Deductible, Rollover, and more. Then there are Roth Contributions, which are also known by Roth, Post-Tax, Non-deductible, Non-Qualified, and more.

So, let’s simplify this for you using the most common terms today, along with the simple differences to start.

Traditional Contributions are pre-tax, meaning that they are contributed to your given retirement account before you pay any tax on the money you’re contributing. That money then grows tax-free through your investments until you withdraw it from the account in the future. When you withdraw the money, you will then pay ordinary income tax on both contributions and earnings. If you withdraw prior to age 59 ½, you may be subject to a penalty on top of the tax. (Simple and SEP IRA’s are generally Traditional Contributions, Roth Simple and SEP’s were recently created by Secure Act 2.0.) Most employer contributions or matches, are traditional.

Roth Contributions are post-tax, meaning that you pay your regular tax owed, like you would any other income, and the net of that is contributed to your given retirement account. That money then grows tax-free through your investments. In this case, you will not owe any tax on the contributions or earnings since it was paid on the original contribution. That means you could see tax free growth for as long as it remains invested in the account.

Now stop. Make sure that you understand that, and if not, go back and read it again or send us a message to help clarify. There is no sense in going deeper until the basics make sense.

After that comes the real complexity.

For any Traditional accounts (pre-tax), you will be required to start taking a Required Minimum Distribution (Ages 73-75 – Secure Act 2.0) so that the IRS can start collecting taxes. Traditional Contributions have income limits on what contributions are tax deductible. Roth Contributions have income limitations on making contributions in the first place.

There is a common misconception that, “You should always do Roth Contributions!”, but is it that simple? Why pay tax in the 32%, 35%, or 37% tax brackets now if you plan to retire well before age 73 and we can do conversion in the lower tax brackets… it’s not that simple!

Speaking of conversions, then comes in Roth Conversions, commonly referred to as ‘back door conversions”.

Wait, what about MEGA Roth Back Door Conversions?! How do they work and when it makes sense is all a matter of proper planning, and if you read our first volume then you will know, It Depends!

If you thought this was helpful or would like for us to dig into anything in particular that was mentioned, send us a message to let us know what would interest our readers!

About Forman Investment Services

If you are not familiar with us, Forman Investment Services is an independent practice located in Columbus, Indiana focusing on Family Wealth Management and generational planning. We serve clients not just locally, but across the country and globe. In today’s day and age, especially after experiencing COVID, we are very comfortable communicating from any distance whether it be in person, a Zoom call, or by phone. We confidently adapt to our clients lives and unique relationship in the style of communication and complexity.

Our planning encompasses much more than choosing investments, as we must consider tax/estate planning, education funding, insurance, retirement planning, and so much more. We work with a select group of clients who value time, family, and recreation, and need today’s investment, tax, and estate planning complexities coordinated for them. We also provide one-time plans to those that are not in need of an ongoing advisor relationship yet to help get you on the right track.

Reach out to us for an introduction if you are interested in learning more!

Any opinions are those of Forman Investment Services and not necessarily those of Raymond James. Investing involves risk and you may incur a profit or loss regardless of strategy selected. Raymond James and its advisors do not offer tax or legal advice. You should discuss any tax or legal matters with the appropriate professional. Prior to making an investment decision, please consult with your financial advisor about your individual situation.

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Published On: November 15th, 2023Categories: Blog