Roth IRAs are a potentially lucrative investment vehicle available to U.S. taxpayers. As of 2011, they are available to individuals with a modified adjusted gross income of $120,000 or less -- $176,000 or less for married couples filing jointly. Roth IRAs are distinct from traditional IRAs, however, because contributions are not tax-deductible. How Deductions Increase Tax Refunds The amount of income tax you pay depends on the size of your income. Deductions reduce the amount of income on which you have to pay tax. Since the tax withheld by your employer is based on your income without knowledge of how many deductions to which you may be entitled, you may sometimes have too much tax withheld and be entitled to a refund. Definition of an IRA IRA stands for individual retirement arrangement. Individuals can place funds in an IRA through a bank or qualified financial institution. There are tax benefits associated with contributing money to an IRA; the specifics of those benefits depend on the kind of IRA chosen. The major types of IRAs are traditional IRAs and Roth IRAs. Traditional IRA contributions can be used as tax deductions, while Roth contributions cannot. Roth IRA Versus Traditional IRA Because Roth IRA contributions are not tax-deductible, it means that contributing to a Roth IRA will not increase your tax refund. The advantage to a Roth is that if you meet the requirements, withdrawals will be tax-free. You can also continue to contribute to a Roth IRA after the age of 70-1/2, and contributions can remain in the Roth IRA for the lifetime of the taxpayer, advantages that don't apply to a traditional IRA. Benefits of a Roth IRA Although contributing to a Roth IRA will not increase your tax refund, income earned inside the Roth IRA is tax-free. No tax is charged on Roth IRA withdrawals, provided the Roth IRA is held for a minimum of five years and the taxpayer does not withdraw any earnings on his contributions before he reaches the age of 59-1/2. Also, because you have paid tax on your contributions, you can withdraw that money at any time without having to pay a penalty.
Written by:
Cathy Lovering
Catherine Lovering is a freelance writer with bylines on Healthline, Interest.com, IvyExec.com, and Paste. Her areas of expertise include health, consumer information, personal finance, legal marketing, small business, individual and corporate taxation, insurance, Canadian tax law, Canadian consumer finance, digital marketing, content marketing, fitness, and public policy. She holds an LLB (JD) from the University of Victoria.
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