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Roth IRA

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The Roth IRA is a savings plan that offers certain tax advantages for individuals to plan for retirement. Contributions to the Roth IRA are made with after-tax dollars. The plan grows tax free.

Tax treatment

The Roth IRA has one tremendous tax advantage: when it comes time to take money out of your Roth IRA, you can do so without paying any taxes on the profits. Your investments also grow tax free. Unlike contributions to a Traditional IRA, contributions to a Roth IRA are made after tax, meaning you cannot deduct your contributions from your taxes.

Contribution limits

For the tax year of 2006, individuals can contribute 100 percent of earned income up to $4,000 to a Roth IRA. In 2008, the contribution limit will rise to $5,000 and will then be adjusted according to inflation each subsequent year.

There are no age limits for the Roth IRA.

Catch-up contribution limits

If you are over the age of 50, you can contribute an extra $1,000, bringing to the total contribution limit to $5,000 for a Roth IRA.

Income limits

There are limitations to contributing to a Roth IRA for high income earners. Single taxpayers must have an adjusted-gross income below $110,000 to be eligible for the Roth IRA. Married couples filing jointly must have an adjusted-gross income below $160,000 to be eligible for the Roth IRA.

Contribution deadlines

The deadline for contributing to a Roth IRA is the tax-filing deadline for the year—April 15 (excluding any extensions).

Investment choices

There are many different financial vehicles available for investment in a Roth IRA—including mutual funds, individual stocks and bonds, and even options on stocks and indexes.

Early withdrawal options

Early withdrawals taken prior to the required age of 59 ½ are subject to taxation and an early-withdrawal penalty of 10 percent. The IRS allows early distributions for “hardships” that fall into these categories.

  • Purchase of a primary residence
  • To avoid foreclosure or eviction of a primary residence
  • Medical expenses not covered by employees insurance
  • Funeral expenses for parents, spouse, or dependants
  • Payment of secondary education expenses
  • Home repairs due to a deductible casualty loss

Distribution requirements

There are no distribution requirements from the Roth IRA during your lifetime.

Rollover restrictions

A Traditional IRA can be converted to a Roth IRA. Doing so will require paying taxes on gains earned within the Traditional IRA at the time of conversion. This conversion makes financial sense in certain cases, but there are several restrictions.

In between now and 2010, you can’t qualify for a conversion to a Roth IRA if you are married filing separately or if your modified adjusted gross income is greater than $100,000.

Additionally, between now and 2008, you can’t roll straight from a company-sponsored retirement plan to a Roth IRA. You must first rollover to a Traditional IRA, and then convert to a Roth IRA.

Potential penalties

Early withdrawal results in a 10-percent penalty on the amount distributed along with normal taxation on the amount withdrawn as ordinary income.

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