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What’s the Best Age to Open a Roth IRA?

Editorial Note: The content of this article is based on the author’s opinions and recommendations alone. It has not been previewed, commissioned or otherwise endorsed by any of our network partners.

The Roth IRA is often touted as a great savings vehicle for younger investors. Since the money you put into a Roth IRA has already been taxed, young investors can put money aside while their income (and tax burden) is lower, then reap the benefits in the form of tax-free withdrawals in retirement. But there is no age limit on Roth IRAs: You are allowed to contribute to a Roth IRA at any age as long as they are still earning income.

How old do you have to be to open a Roth IRA?

As a tax-advantaged investment vehicle, Roth IRAs have some strict eligibility rules. But unlike traditional IRAs, there are fewer age-related eligibility rules for Roth IRAs.

For instance, traditional IRA account holders must begin taking required minimum distributions (RMDs) as of age 72, while Roth IRAs have no such distribution requirement and you may leave money in a Roth account for as long as you live.

One age-related rule that both Roth and traditional IRAs share is the age at which account holders may begin making withdrawals without facing a penalty. In both cases, that age is 59 and a half. Until you reach that magic number, both Roth and traditional IRA distributions will be subject to the 10% tax penalty. In addition, you cannot take a penalty-free distribution from your Roth IRA earnings if it has been less than five years since you opened it.

No matter your age, as long as you have earned income, you can open a Roth IRA. However, your total modified adjusted gross income (MAGI) will help determine how much you can set aside in your Roth IRA. In 2020, the contribution limit for both traditional and Roth IRAs is $6,000, rising to $7,000 for filers who are age 50 or over. It’s important to remember that this contribution limit is applied to all of your IRA accounts if you have more than one. This means your total contributions to all of your traditional and Roth IRAs cannot be more than $6,000.

Taxpayers who are married filing jointly can contribute up to the maximum amount to their Roth or traditional IRA if their MAGI is below $196,000. A married couple can contribute a reduced amount if their MAGI falls between $196,000 and $206,000, and couples earning more than $206,000 may not contribute to a Roth IRA in 2020. Single filers are eligible for a full contribution up to a MAGI of $124,000, a reduced contribution between $124,000 and $139,000, and may not make a contribution with a MAGI above $139,000.

Basically, as long as you make at least $6,000 and make no more than the MAGI limits for your filing status, you can contribute the full amount to your Roth IRA, no matter your age.

Roth IRA benefits for young contributors

  • Pay taxes at a lower level: Provided you wait until age 59 and a half (and own the Roth IRA for at least 5 years before making a distribution), you can access the money in your Roth IRA tax-free. This means a younger contributor could pay a lower amount in taxes on that money, since their tax bracket is likely to be lower now than it will be later in their career or even in retirement. In addition, since it’s impossible to know exactly what kind of tax burden you will be facing in retirement, having money in a tax-free vehicle provides you with a hedge against future taxes.
  • Compound interest: In addition to your distributions being tax-free in retirement, your contributions grow tax-free, which means you get to enjoy all of the gains from your investment in retirement instead of having to see some of those gains lost to taxes. The other benefit of compound interest is the fact that it can make even modest early contributions grow to something quite robust.
  • Future income hedge: If you expect to eventually make too much money to contribute to an IRA, investing in a Roth IRA early in your career can guarantee you the benefit of compound interest and tax-free growth even after you stop being eligible to contribute.
  • Access your contributions tax-free: While you would have to pay taxes and penalties on withdrawals from your gains in a Roth IRA, the amount that you contributed can be withdrawn tax- and penalty-free, because that money has already been taxed. This makes the Roth IRA a much more flexible account than other tax-advantaged retirement accounts.

Roth IRA benefits for older contributors

  • Diversify your retirement income Social Security benefits, pension benefits and withdrawals from traditional IRAs and 401(k)s are all subject to taxation in retirement. In fact, the amount of taxes you will owe on your Social Security benefits depends in part on how much income you have from your pension, traditional IRA or 401(k). By having a Roth IRA set up so that you have a source of tax-free income in retirement, you can give yourself a little more control over your tax burden.
  • Estate planning: Since you are not required to take distributions from your Roth IRA as of age 70 and a half, you can use your Roth IRA as a method of passing money along to your heirs tax-free. By naming your heir as a beneficiary of your Roth account, the money could pass to your heir without being subject to estate taxes. Do note that inherited IRAs are subject to required minimum distributions, even in the case of Roth IRAs.
  • Compound interest is still your friend: Because you are not required to take required minimum distributions as of age 70 and a half, older Roth IRA contributors can get the benefit of compound interest in ways that they could not with a traditional IRA. Even if you do not open a Roth IRA until after age 40, 50, or later, you can leave the money in the account for as long as you like, potentially giving it decades to grow before you access it. A traditional IRA puts a cap on that potential for growth by forcing you to take RMDs as of age 70 and a half.
  • Backdoor Roth conversions can open up your eligibility: Even if you make more than the income limit for contributions, it is possible to convert your traditional IRA into a Roth account using what’s called a “backdoor Roth conversion.” Before you convert your entire traditional IRA, don’t forget that you’ll owe taxes on any pre-tax money and growth that gets transferred to your Roth IRA.
  • Catch-up contribution limits: Investors over the age of 50 may contribute a full $1,000 more per year than those under the half-century mark. This means an older Roth IRA contributor can set aside $7,000 in 2020.

The bottom line

There’s no one right time to open up a Roth IRA. Whether you are a fresh-faced recent college grad or the grizzled veteran at your workplace, you can benefit from a Roth IRA. Just make sure you understand the potential advantages and disadvantages of setting aside already-taxed money into a Roth IRA.

Advertiser Disclosure: The products that appear on this site may be from companies from which MagnifyMoney receives compensation. This compensation may impact how and where products appear on this site (including, for example, the order in which they appear). MagnifyMoney does not include all financial institutions or all products offered available in the marketplace.

Emily Guy Birken
Emily Guy Birken |

Emily Guy Birken is a writer at MagnifyMoney. You can email Emily here

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Wondering How Much to Contribute to Your 401(k)? 8 Things to Consider

Editorial Note: The content of this article is based on the author’s opinions and recommendations alone and is not intended to be a source of investment advice. It has not been previewed, commissioned or otherwise endorsed by any of our network partners.

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It’s easy to overlook the details of your 401(k) plan when you start a new job — there’s the excitement of learning the ropes, bringing in a fatter paycheck and finding the quiet bathroom.

Unfortunately, neglecting your 401(k) contributions can have a serious effect on your future. That’s because the money you invest early in your career has decades to grow, so even the most modest contributions can become an impressive nest egg with compound interest.

Even if you’re aware that you need to contribute to your 401(k), it can be tough to decide how much, especially if you have competing financial priorities. Here are eight factors to consider when deciding how much to contribute to your 401(k).

1. Know the IRS limits on 401(k) contributions

Your 401(k) plan is a tax-deferred retirement account, which means you deduct your contributions from your annual income at tax time. This also is described as funding your account with pre-tax dollars.

Since Uncle Sam won’t immediately see any taxes on the money you set aside, the IRS sets 401(k) contribution limits to prevent individuals from using their 401(k) accounts as vehicles to dodge taxes on large sums of money. In 2020, the employee contribution limit is $19,500 for participants who are under age 50.

If you are in a position to afford a $19,500 annual contribution, you should plan to send $1,625 per month ($19,500/12 = $1,625) to your 401(k) and call it day. If you’re a mere mortal with bills to pay, you’ll need to use other strategies to maximize your 401(k) contribution.

2. Take advantage of company matching

Many employers offer to match 401(k) contributions up to a certain amount. For instance, your company might offer to match 50% of your contributions up to 6%. This means that if you contribute 6% of your salary to your 401(k), your company will put in 3%, giving you 9% in total contributions.

“Your first goal should be to contribute enough to get the company match. This can be difficult if you’re just starting out, but saving has to be a little bit painful,” explained Jim Blankenship, a certified financial planner and the principal of Blankenship Financial Planning in New Berlin, Ill.

If contributing enough to reach the full company match is unaffordable, Blankenship recommended that you increase your contribution every time you get a raise or set up an automatic increase of 0.5% or 1% every six months. That will help you ease into contributing enough to get the match without feeling the bite all at once.

Another important thing to remember is that your employer’s contributions on your behalf don’t count toward your $19,500 contribution limit. Your employer may contribute as much as $37,500 to your 401(k) in 2020.

3. Contribution goals should not be static

It’s not a good idea to adopt a “set it and forget it” attitude when it comes to your contributions. “Your goals should evolve over time. Even if your initial goal is to get the full company match, you shouldn’t rest on your laurels once you get there,” warned Blankenship.

He recommended that you eventually max out the annual IRS contribution limits or put aside 20% of your annual salary — whichever is feasible. For instance, a worker earning $35,000 per year probably will not be able to afford the $19,500 401(k) contribution limit. However, setting aside $7,000 per year may be an achievable goal.

4. Make sure you understand vesting

While the company match is an excellent perk, it’s important to remember that the matching amount is not necessarily yours the moment it appears in your account. You will have to wait to be vested before you can consider that money yours in retirement.

In many cases, vesting is graduated over time. For instance, you might be vested in 20% of your company’s match after one year, 40% after two years and so on until you are 100% vested after five years of employment.

If you separate from the company prior to becoming 100% vested, then you will lose the nonvested amount. Unfortunately, this is true whether you quit, get fired or get laid off. The good news is that your own contributions are completely vested, so any money you personally put away is yours to keep no matter what happens to the company match or your employment status with the company.

5. 401(k) contributions are pre-tax

While you crunch the numbers to determine how much you can contribute to your retirement account, don’t forget that your take-home pay will not be reduced by the full amount of your contribution. Since your contribution is taken from your pre-tax salary, contributions effectively lower your annual salary, which means your tax withholding for each paycheck also will go down. So for each $100 you contribute to your 401(k), you’ll see less than $100 deducted from your take-home pay.

6. 401(k) vs. debt vs. emergency fund: how to prioritize

Most people have a number of competing financial needs, making it difficult to understand how to prioritize where your money goes. Should you build your emergency fund, focus on maxing out your 401(k) contributions or pay down debt to avoid losing money on high interest rates?

“Your top priority should be building an emergency fund of three to six months’ worth of unavoidable expenses,” said Blankenship. “Unavoidable expenses means true bare-bones minimum: rent or mortgage, car payment, utilities and groceries. You don’t need to recreate your usual monthly spending, just the amount you would need to get by.”

Once that is in place, Blankenship recommended paying the minimum amount on your debt to prioritize getting the company match on your 401(k). Credit card debt or other high-interest debt should take priority over student loan debt; however, you can work on paying down your debt while contributing to your retirement account.

7. Review the details of your 401(k) plan

How much you contribute to your employer 401(k) may depend on how good the plan is. Blankenship recommended looking at the portfolios offered by your 401(k) to determine if it’s a good low-cost investing environment for your money.

“You should educate yourself on what makes for a good diversified portfolio, and there are a number of resources online that will help you do an analysis of your potential portfolio,” he said. In particular, Blankenship recommended Yahoo Finance.

Blankenship also recommended opening an individual retirement account (IRA) if your 401(k) isn’t up to snuff. You should keep contributing to your 401(k) up to your company match; however, any contributions beyond that should go toward your IRA to take advantage of lower fees or a more diversified portfolio.

8. Determine your desired retirement age

It can be hard to think about retirement when you’re in the thick of your career, but it’s a good idea to do some basic calculations to determine how much you will need, even if retirement is decades away.

Not only will you have a better sense of what you need to set aside to reach your goals, but thinking about what you want from your future makes those goals feel more immediate (which also makes it easier and more satisfying to save money).

The takeaway

The precise amount to send to your 401(k) will depend on a number of factors. Meeting your company match and creating savings goals that evolve over time will help ensure you have a robust retirement account when you need it.

Advertiser Disclosure: The products that appear on this site may be from companies from which MagnifyMoney receives compensation. This compensation may impact how and where products appear on this site (including, for example, the order in which they appear). MagnifyMoney does not include all financial institutions or all products offered available in the marketplace.

Emily Guy Birken
Emily Guy Birken |

Emily Guy Birken is a writer at MagnifyMoney. You can email Emily here

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Understanding the Pros and Cons of the Reverse Rollover

Editorial Note: The content of this article is based on the author’s opinions and recommendations alone. It has not been previewed, commissioned or otherwise endorsed by any of our network partners.

Rolling over a 401(k) into an IRA is a common process that can help a saver maintain control of their retirement investments even when they part company with the employer providing their 401(k) plan.

Fewer people are familiar with the so-called “reverse rollover,” wherein an IRA account holder rolls over those funds into an employer-sponsored 401(k). Though less common, there are a number of reasons why a saver might want to consider it — as well as several drawbacks. Here’s what you need to know about these accounts and how reverse rollovers between them can work.

Differences between an IRA and a 401(k)

While both of these accounts offer tax-deferral benefits, there are a few important differences to be aware of when choosing either type of account. In addition, it’s important to remember that you may open and contribute to each type of account at the same time, so a rollover may be unnecessary if you are eligible for both account types.

The important differences to remember between IRAs and 401(k) accounts are their contribution limits and income limits:

  • Contribution limits: For 2020, the IRA contribution limit is $6,000 ($7,000 for those over age 50), and the 401(k) limit is $19,500 ($26,000 if over age 50). You can contribute to both a 401(k) and an IRA at the same time, so if you are able to do both, a rollover may not be necessary to increase your total contribution limit.
  • Income limits: IRAs also have a lower compensation limit for receiving the tax-deferral. Savers eligible for an employer-sponsored retirement plan receive a full tax deduction for IRA contributions if their income is less than $64,000 ($103,000 for married couples filing jointly). For 401(k) accounts, the income limit is $285,000 before savers lose the tax-deferral.

Though you can hold both accounts at the same time, you may still be interested in a reverse rollover. There are some important benefits and drawbacks that you should be aware of.

Reasons to choose a reverse rollover

  • Easier Roth conversion: The Roth IRA is funded with already-taxed dollars, which means it grows tax-free and you can take tax-free distributions in retirement. However, if you are single and make more than $139,000 or married and make more than $206,000, you cannot contribute to a Roth IRA, but you can convert a traditional IRA into a Roth. You’re required to pay taxes on any money in the account that has not already been taxed. So if you have a mix of pre- and post-tax money in your IRA, you can move the pre-tax money into a 401k before doing the Roth conversion. That will leave any post-tax contributions in the IRA available to convert into a Roth IRA without paying any more taxes at the time of conversion.
  • Bankruptcy protection: 401(k) accounts are qualified accounts under the Employee Retirement Income Security Act (ERISA) and not considered to be part of your bankruptcy estate. Until 2005, IRAs had no such protection, but the Bankruptcy Abuse Prevention and Consumer Protection Act (BAPCA) exempted a portion of IRAs from bankruptcy estates. The IRA amount exempted is currently more than $1 million.
  • Earlier access to funds: Both 401(k) accounts and IRAs have stiff tax penalties for accessing your funds prior to reaching age 59 and a half. However, a 401(k) account holder who leaves their job anytime during or after the year they turn 55 may take distributions from the 401(k) without penalty.
  • Postponed distributions: 401(k) accounts may help postpone required minimum distributions (RMDs), which are the mandated amount you must withdraw from tax-deferred retirement accounts at age 70 and a half. There is no getting around IRA RMDs, but if you are still working at age 70 and a half, you may postpone distributions from your 401(k) until you retire.
  • 401(k) loan options: In a bad financial crunch, you may be able to take a loan from your 401(k) without paying taxes on the withdrawal. You’re required to repay the loan with interest (to yourself) within five years, and if you separate from your employer before you have paid back the loan, it’s considered a distribution, triggering taxes and penalties.

Reverse rollover downsides

  • Fewer investment options: 401(k) plans offer fewer investment options than IRAs, so anyone who wants to hand-pick their investments would be happier sticking with an IRA.
  • Access for higher education and home purchase: While both IRAs and 401(k) accounts allow you to take early, taxable distributions without penalty because of hardship such as disability, medical, or funeral expenses, only IRAs allow such an early, penalty-free (but taxable) distribution for higher education or a first-time home purchase.
  • Indirect rollovers can cost you: With an indirect rollover, your IRA cuts a check for you to deposit into your 401(k). However, your IRA administrator is required to withhold 20% of your distribution for federal taxes. For instance, if you’re rolling over $25,000, you will receive a check for $20,000 and the remaining $5,000 will be sent to the IRS. But you will still be required to deposit the full $25,000 in your 401(k) or face the tax penalty.

How to roll over an IRA into a 401(k)

Start by making sure that your 401(k) plan will accept a rollover from your IRA, since not all plans do. Get your 401(k) set up before you initiate the rollover because you only have 60 days to get the money from one account to the other without a penalty.

Ask your 401(k) plan administrator how to do a direct transfer, where your IRA administrator makes the payment to your 401(k) and you face no tax or penalty. If the money comes to you first in an indirect rollover, 20% of the amount is withheld and you must make up the difference.

Bottom line

Rolling over an IRA into a 401(k) can provide you with a higher contribution and income limit for tax-deferrals, more control over when you take your distributions, an opportunity for an easier Roth conversion, and more financial protection if you face serious money troubles. But it can also limit your investment choices, make it harder to pay for education or a home, and can be costly in the case of an indirect rollover. Savers interested in a rollover IRA to 401(k) must understand all of the ramifications before they commit.

Advertiser Disclosure: The products that appear on this site may be from companies from which MagnifyMoney receives compensation. This compensation may impact how and where products appear on this site (including, for example, the order in which they appear). MagnifyMoney does not include all financial institutions or all products offered available in the marketplace.

Emily Guy Birken
Emily Guy Birken |

Emily Guy Birken is a writer at MagnifyMoney. You can email Emily here