A Roth IRA is a type of individual retirement account where you contribute after tax money and the account grows tax free. It is part of the US Tax Code that essentially gives you a break from paying taxes in retirement for money you saved in the plan.
You can open a Roth IRA at almost every brokerage, even the discount brokerages online. Within the Roth IRA, you pick your own investments, and they can be just about any type of asset you want including real estate, gold, individual stocks, and other investments in self-directed Roth IRAs.
Roth IRA Advantages
The biggest advantage of the Roth IRA is that the money you withdraw from it in retirement is not subject to taxation. This is great if you plan on being in a higher tax bracket in retirement than you are in now.
A second big advantage of the Roth IRA is that your contributions can be withdrawn at any time tax free. The only money that is actually locked up until retirement is your earnings. Earnings in a Roth IRA can’t be withdrawn until age 59 ½ without being subject to taxes and penalties. However, you can also withdraw up to $10,000 of earnings for a qualified first time home purchase, with is another great benefit.
Finally, unlike other retirement plans, a Roth IRA does not require distributions at any age. If you do not want to touch the money in your IRA, you do not have to do so ever. In fact, you can pass the assets onto your heirs and even skip probate thanks to beneficiary designation forms.
Roth IRA Drawbacks
There are several drawbacks to be aware of with the Roth IRA though. First, since you are using after tax money to contribute to the account, the contributions are not tax deductible.
Second, not all individuals are eligible for a Roth IRA. After certain income limits (currently $105,000 for singles, $169,000 for married in 2012), the amount you can contribute phases out and after a certain point you no longer qualify.
Also, the future tax benefits of the Roth IRA may never be realized for two reasons: first, you may not live until retirement and the future tax benefits would not then be realized. Second, Congress may always change the current taxation of Roth IRA withdraws although this would be very unpopular and unlikely to occur. Both of these risks are geared more towards very young contributors, since events cannot be predicted 20 years into the future.
A Roth IRA is a great investment type with several benefits and a few drawbacks as well. The earlier you start will have a better outcome in retirement despite the uncertainty and potential tax consequences investors could face.