5 Reasons to Skip the Roth IRA
Many people will tell you all about the benefits of a Roth individual retirement account. And rightfully so: There are many reasons the Roth makes sense. But on the other hand, there are also many reasons not to invest in a Roth.
But first, the positives: The Roth IRA is a great tax play because you can add money to it annually (up to $5,500, and for those above age 50, an additional $1,000). The money you invest will be taxed. But the real benefit comes after you retire: After age 59½, when you begin taking distributions out of that plan, all of your distributions will be tax-free.
If your company has a Roth 401(k) option, you can add $18,000 to the plan. If you are over age 50, you can add $6,000. And if you really want the benefits of a Roth, you can do a Roth conversion, in which you take one of your existing IRAs or qualified plans and convert the entire thing to a Roth. The catch is that you need to pay tax on that entire conversion as if you earned that money in that tax year. So that tax bill can be a doozy.
Although most of this sounds great, the Roth is not for everyone. Consider these five reasons not to invest in a Roth.
Your time horizon is short. The Roth is beneficial for money that will stay invested for a long time -- the longer the better. But if you are in your 80s or 90s, it likely does not make sense to pay all that tax for money you will not likely use . Also, if you do not have any beneficiaries that could utilize the benefits of the Roth, it may not be worth doing.
You're leaving significant assets to charity. If most or all of your money, upon your death, will go to charity, it does not make sense to pay all of that upfront tax. Why? The charity will likely already enjoy tax-free status, so why pay the tax to put the money in a tax-free account when it will already be going to a tax-free charity? That would not make sense.
The cost of the tax is too high. Most people who have questions about the Roth are thinking about doing a conversion. Depending on how much they will contribute, they will have a tax to pay, and it could be fairly large. But many people don't have the resources to pay that tax. In their financial plan, they are just going to make it with a moderate rate of return and not take too much money out of their investments to live on. If this describes you, you should not consider the Roth. If you did do the conversion, you retirement could be jeopardized.
You may not have the right kind of money to convert. If your money is in an IRA or qualified plan, you do not have the money to pay the tax, so you would have to take money out of those plans -- and pay tax on them to then pay the tax on the Roth. When doing the Roth conversion, you have to pay the tax. But if all you have is retirement dollars, you will need to cash out of that retirement plan and pay the tax of cashing out, just to pay the tax on the conversion. That, in most cases, would not be a good idea. Remember that the conversion could put you in a higher tax bracket, so the conversion and the cash out could be charged at the highest tax levels.
Psychologically, it's hard to write that large check. Finally, many people like the idea of converting their IRA to be able to put it in an account that is never taxed again. They believe they have gotten away with something. And they are right -- they will never have to pay tax on that investment, nor will their kids if they inherit that account. That sounds good. But remember, after the conversion, when you complete your tax return, you will potentially have to write a big check to the IRS. Just holding the pen to write that check will give some people the willies. If you will have trouble psychologically giving the IRS money, hold off on your conversion.
As you can see, the Roth is a big commitment, and not everyone should partake. The best way to see if the Roth is right for you is to talk to your financial advisor and/or accountant. These professionals can usually have a good conversation to see if you should cross the Roth off your list.
Kelly Campbell, certified financial planner and accredited investment fiduciary, is the founder of Campbell Wealth Management and a registered investment advisor in Alexandria, Va. Campbell is also the author of "Fire Your Broker," a controversial look at the broker industry written as an empathetic response to the trials and tribulations that many investors have faced as the stock market cratered and their advisors abandoned their responsibilities to help them weather the storm.
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