What Is a Roth IRA and How Does It Work?

If you’ve been reluctant to start saving for retirement, you may want to open a Roth IRA. A recent survey found that only 17% of Americans view saving for retirement as a top priority. Most Americans either haven’t started saving for retirement, or they simply don’t prioritize this task. If this sounds familiar, you may want to open a Roth IRA. It will give you a head-start on retirement.

The Basics of a Roth IRA

A Roth IRA is a type of individual retirement account that allows you to save after-tax dollars for your retirement. After-tax dollars, of course, is money that you’ve earned and have already paid taxes on.

Many employers offer Roth IRAs for their employees. Some of them may match their employees’ contributions. If you deposit $5,000 into your employer-sponsored Roth IRA, for instance, the employer may match it by depositing another $5,000. Even if your employer doesn’t offer Roth IRAs, though, you can still open one of these retirement accounts.

Roth IRA vs Other Retirement Accounts

There are other types of retirement accounts. With a Roth IRA, though, you can take advantage of tax-savings benefits. You won’t have to pay taxes on the growth earnings of your Roth IRA contributions.

You can use your Roth IRA contributions to invest in stocks, mutual funds or other investment securities. As the value of these investments increases, so will the value of your Roth IRA. While other types of retirement accounts may require you to pay taxes on these growth earnings, Roth IRAs do not

You can also withdraw funds from your Roth IRA after age 59 and ½ without incurring any penalties, assuming your Roth IRA has been active for at least five years.

How a Roth IRA Works

A Roth IRA works like most other retirement accounts but with some caveats. It’s a type of personal or individual retirement account that allows you to contribute after-tax dollars while taking advantage of certain tax-savings benefits.

There are limits to Roth IRAs, however. When filing your taxes as single or married filing separately, you can only contribute $6,000 to $7,000 to your Roth IRA per year, assuming your income is less than $129,000 (rules for 2022 income, which may change from year to year).

Regardless, opening a Roth IRA is a great way to start saving for retirement. You won’t have to pay taxes on the growth earnings of your contributions, and you can even withdraw funds from your Roth IRA without incurring penalties once you’ve reached a certain age.

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