Planning for retirement is one of the most important financial steps we can take.
There are many ways to save for retirement – using investment accounts, purchasing real estate, and contributing to your savings account could all be good options. Generally, for the long-term growth of your money, investing in the stock market produces the best possible results.
For retirement savings, it’s best to use a specific retirement account to invest. These accounts offer valuable tax benefits that make them a far better choice than traditional investment accounts.
For many individuals, one of the best retirement accounts to use is a Roth IRA. These accounts provide a powerful retirement savings tool with massive tax savings and a wide variety of investment options.
Essentially, when you invest in a Roth IRA, you won’t pay any taxes when you withdraw money in retirement. For example, if you invest $5,000 and it grows into $100,000 by the time you retire, you will not pay any federal income tax on the $100,000 when you withdraw it.
If a standard brokerage account is used, there are no tax benefits. You would owe income tax on the $100,000 when you withdraw it – and dividends and stock sales you make along the way would also be taxed.
This guide will cover all details of the Roth IRA retirement plan, and help readers find the best Roth IRA accounts for their needs.
What is a Roth IRA?
A Roth IRA is an investment account designed for retirement savings. It offers significant tax benefits.
- The Roth IRA contribution limit (maximum) is $6,000 per year
- The account can be used to invest in stocks, bonds, ETFs, mutual funds, money market accounts, and more
- Almost any US citizen can open a Roth IRA
- Those earning up to $125,000 per year can contribute (full contribution rules and income limits are found here)
- Retirement contributions do not earn a tax break on the current year’s taxes
- Instead, withdrawals in retirement are tax-free
- When funds are withdrawn in retirement, no federal income tax will be owed
- Income from dividends and the sale of stock is also protected from income taxes
- There may be penalties for early withdrawal before age 59 ½
Essentially, a Roth IRA allows retirement savings to grow tax-free. When funds are withdrawn, no income taxes are owed. This means that if you contribute $100,000 to a Roth over the years, and it grows into $1,000,000, the entire $900,000 of growth will be yours, tax-free.
The best Roth IRA accounts allow for a wide variety of investment options. There are good investment choices for any risk tolerance and experience level.
Of course, a Roth IRA is not the only type of retirement account to consider. Two others may be worth looking into: Traditional IRAs and self-directed IRAs.
A self-directed IRA is a specialty account designed for sophisticated investors. It functions similarly to a Roth or traditional IRA, in that it offers tax benefits. The difference is the variety of investments that are available.
With a self-directed IRA, savers can invest in real estate, cryptocurrency, loans, private equity funds, physical precious metals, and much more. These accounts basically extend the retirement tax savings of a normal IRA and expand the variety of investments available. These accounts can generally be either Roth or traditional.
Self-directed IRAs offer much more flexibility in what can be invested in. However, they are more complex and are generally recommended for more experienced investors.
Roth vs traditional IRA
Unlike a Roth account, a traditional IRA account offers up-front tax benefits, rather than tax benefits in retirement.
When contributing to a traditional IRA, savers will get an immediate tax break on the current year’s tax return. For example, investing $5,000 in a traditional IRA would give the saver a $5,000 tax deduction on income tax. Depending on their tax bracket, this deduction could save $500-$1,000 or more on the current year’s tax burden.
These up-front savings can help motivate savers to invest more during their working years. It can also free up additional funds to invest, as the immediate tax savings can be significant.
The downside of a traditional IRA, of course, comes when it’s time to withdraw the funds. When funds are withdrawn in retirement, income tax must be paid on distributions. If a retiree withdraws $50,000 each year for living expenses, they would pay federal income tax on the full amount they withdraw.
It’s difficult to say what income tax rates will be in the future. This can make it difficult to decide between a Roth IRA or a traditional IRA. This comparison from IRS.gov gives a good overview of the differences to consider.
There is much debate over which is the best IRA account style – in reality, each offers unique benefits. The common advice is to choose a Roth IRA if you expect your tax rate to be lower in the future than it is now. Conversely, if you expect to be in a higher tax bracket in retirement, choose a traditional IRA.
It’s a good idea to discuss retirement planning with a qualified financial advisor. This is particularly true for new investors who could benefit from investment advice.
Why use a Roth IRA?
Savers should consider using a Roth IRA to save for retirement because of the significant tax benefits it provides.
All money invested in a Roth IRA is allowed to grow tax-free. This means the income received from dividends, bond yields, etc. will not be taxed.
This can make a big difference. Take this example:
- At 25 years old, Jane begins investing $5,000 per year into her Roth IRA
- For 40 years, Jane earns an average return of 7% (a good estimate of long-term past performance)
- At 65 years old, Jane’s Roth IRA has grown into over $1,000,000. She contributed a total of $200,000 over the years
- Her money can now be withdrawn to use in retirement, and no taxes will be owed
- If Jane had instead invested in a normal brokerage account, her ending balance would be about $700,000, instead of $1 million
- This is because of taxes over the years – on every dividend she receives and every profitable investment she sells
- Also, Jane will owe taxes when she actually withdraws money, further reducing her savings
In this example, a Roth IRA offers hundreds of thousands of dollars in tax savings.
Roth IRAs are also simple to sign up for and have broad eligibility requirements. Most workers are able to sign up for one, whether they work for an employer or run their own business.
How to choose a Roth IRA account provider
Roth IRA accounts are available from a wide variety of brokers, banks, and financial institutions. The way these accounts function, in terms of tax benefits, will be the same regardless of where the account is opened.
However, other important details, like fees and investment options, can vary substantially between providers. Because of this, it’s important to take care when choosing a broker to keep your retirement accounts. Here are the most important factors to consider.
Fees charged by brokers can eat into retirement savings, reducing long term growth. There are several fees to be aware of:
- Annual account fees
- Transfer fees (for moving over an existing account)
- Trading fees
- Fees charged for specific investments
Annual account fees are common for self-directed IRAs. Standard Roth IRAs can be found at many providers without annual fees.
Transfer fees are common for most providers, although some offer rollover fee waivers to entice new customers. This fee is only relevant for investors who have an existing account they would like to transfer to a new broker.
Trading fees or transaction-fees are common with many providers, although some now offer free trades. These are flat fees (usually $5-$10) charged every time an investment is purchased. These fees can add up, and should be avoided where possible.
Investment fees are nearly universal. However, these fees relate more to the actual investments you make, rather than the provider you make them with. Individual stocks will not have investment fees, but most other investments you can make – exchange-traded funds (ETFs), index funds, mutual funds, bond funds, etc. will carry some sort of fee. This fee isn’t usually “paid” directly by the investor; instead, the cost is subtracted from the total return of the investment. These fees are usually presented as “expense ratios”, and can vary from as little as 0.01% of your investments to as much as 1% or more. High expense ratios should be avoided, as they can drastically reduce long-term returns.
The selection of investment options available from a given provider is also very important.
A good Roth IRA broker will offer a wide variety of:
- Individual stocks
- Low-cost index funds
- Low-cost ETFs and mutual funds
- Low-cost bond funds
- Individual bonds
- Real Estate Investment Trusts (REITs)
- And more
All brokers will offer access to individual stocks, so the real difference is usually relating to the selection of investment funds.
Investment funds – mutual funds, ETFs, and index funds – are a way to invest in hundreds or even thousands of companies at the same time. They are an excellent, diversified choice for long-term retirement savings.
However, these funds have fees, called expense ratios or management fees. Low-cost index funds may charge just 0.07% of your money each year – $7 on a $10,000 investment, for example. This amount is negligible and won’t have a substantial impact on your retirement savings.
Some mutual funds and ETFs have much higher fees, however. Some charge as much as 1.25% or even more. That’s $125 per year for every $10,000 you invest – and the fee will be charged each year, even if the fund loses money.
Some funds even have up-front fees to invest. These should be avoided.
For long-term investing success, look for a plan provider with a wide variety of low-cost investments. Avoid high expense ratios whenever possible.
Lastly, Roth IRA providers should have good customer support.
When you open one of these accounts, you will likely hold the account for decades. Picking a trusted company to work with is very important.
You can gauge a company’s customer service by reading customer reviews. You can also call in to ask questions, and see for yourself how good their service is.
The best Roth IRA accounts
The providers listed below offer the best blend of low costs, wide investment options, and good customer support.
A low-cost brokerage with a wide variety of low-cost investment options
Charles Schwab is one of the largest brokers in America. They offer individual investment accounts, Roth IRAs, traditional IRAs, and even a limited self-directed IRA.
Schwab is known for its low fees. They have a $0 account minimum, a $0 charge for stock and ETF trades, and a wide variety of low-cost index funds and ETFs.
Schwab is also a bank, so customers can get a checking account or other financial services from them. If you prefer to keep all your personal finance in one place, this is an attractive selling point.
See the full review of Charles Schwab here.
A self-directed IRA provider with versatile investment options
Rocket Dollar is a popular option for self-directed Roth IRAs. This account structure is intended for experienced investors who want a wider variety of investment options.
Rocket Dollar makes it possible to invest in real estate, startups, gold, and even cryptocurrency – all while enjoying the benefits of a Roth IRA.
Self-directed IRAs do have higher fees than standard Roth IRAs, but for some investors, the difference is worthwhile – and Rocket Dollar is a good choice for this type of account.
A traditional broker with powerful trading tools
TD Ameritrade is a popular online broker. They offer standard investment options, including stocks, mutual funds, ETFs, bonds, and more. They have many low- to moderate-cost investment options.
TD Ameritrade has beginner-friendly features and mobile apps. They have educational resources that can help explain basics like asset allocation to new investors. TD Ameritrade also has powerful tools for sophisticated investors. They seek to serve a wide variety of savers, from beginner to expert.
See the full review of TD Ameritrade here.
A modern option with sophisticated investment tools, automation, and more
Betterment is a startup that offers a twist on traditional investment options. They are what’s known as a robo-advisor, which essentially means that they use artificial intelligence (AI) and modern tools to help with financial planning.
Betterment lets you set customized goals, allocate your investments automatically, rebalancing funds, and much more – all from a slick, modern interface.
This platform does have an annual fee, but for hands-off investors, it is well worth it.
A powerful trading platform for experienced investors
E-Trade is a large broker that offers $0 commission trades, and a suite of powerful investing tools. They have low costs, learning resources, and no account minimums.
Like TD Ameritrade, E-Trade is a good choice for both new and experienced investors. New investors will appreciate their lack of transaction fees and a wide variety of low-cost funds. Experienced investors will appreciate E-Trade’s sophisticated market and trading tools.
A pioneer of the low-cost investment industry
Vanguard is a provider of low-cost investment options. They are both a broker and a manager of funds, meaning that they have their own Vanguard ETFs and mutual funds.
Vanguard pioneered the entire low-cost investing industry. They were one of the first to offer very low-cost investment options.
Today, many competitors have followed suit, making Vanguard less unique in this approach. Even so, Vanguard remains a very popular choice for low-cost investing.
IRA Financial Group
A versatile option for self-directed investing
IRA Financial Group is a provider of self-directed IRA accounts. These specialized accounts allow for investments in alternative asset classes, including real estate and cryptocurrencies.
IRA Financial simplifies the self-directed investing process. However, this is still an area of investing that should be reserved for experienced individuals, as it can carry more risk (and higher expenses).
A versatile broker offering self-directed as well as guided investing
Merrill Edge is a provider of individual retirement accounts, brokerage accounts, and other financial services. It’s owned by Bank of America.
This company offers low-cost options for investors who want to make their own investment decisions. It also offers guided investing, with the help of online advisors.