In choosing a Self-Directed IRA, most investors will encounter a fundamental choice: is it better to use a Traditional IRA or a Roth IRA? The differences go far beyond the name. A Self-Directed Roth IRA is a fundamentally different way of investing from a Traditional IRA. But that does not mean a Traditional IRA is without its benefits, either. To make sense of this, let’s look at the characteristics and benefits of both—and ask which one might be best for you:
The Traditional IRA: What You Need to Know
The Traditional IRA allows you to make contributions to your retirement account with before-tax money. In other words, you can deduct your contributions from your taxable income now. This is primarily beneficial for those who anticipate that their tax rate at retirement will be lower than their current tax rate.
For example, if you plan on spending a lot of your money now and living on a modest income in retirement, a Traditional IRA allows you to keep more of your income now, since you’ll be paying taxes on those contributions down the line.
In addition to this difference, a Traditional IRA may be a good option for someone who wants to invest in a Self-Directed IRA and may find themselves unqualified for a Roth IRA—maybe due to having a large income, for example.
The Self-Directed Roth IRA: What You Need to Know
The Self-Directed Roth IRA does not allow you to deduct contributions in the present, which means that if you want to invest now, you will have to do it with money that’s going to be taxed. This is primarily beneficial for those who anticipate ending up in higher tax brackets in retirement than in their current status.
As you might imagine, putting aside money that is then allowed to grow tax-free within a retirement account without taxes upon withdrawal during retirement is hugely beneficial. It means that you will keep a more substantial portion of your retirement money even if you have other account types, such as a 401(k), simply due to the presence of money within a Self-Directed Roth IRA.
The Self-Directed Roth IRA also has the benefit of not requiring you to take Required Minimum Distributions (RMDs) after retirement age, which means that if you continue working after retirement age, you can continue to allow that money to pile up and accumulate returns.
In essence, the Self-Directed Roth IRA is a powerful way to invest for people who have a long-term approach: they know that the more money they have in retirement, the more that money will grow. This allows you to take advantage of compounding returns.
Self-Directing in a Traditional or Self-Directed Roth IRA
Both accounts can be self-directed, which means that you can open them up to more flexibility than the traditional approach. Keep in mind that the contribution limits on IRAs are set by the IRS, so there will not be an advantage in being able to put money in a Self-Directed Roth IRA or a Traditional IRA. That’s predetermined.
But depending on your particular retirement strategy, you may find it incredibly easy to use either account in a way that suits your needs. A Traditional IRA can help you leverage more of your income now to put aside savings. A Roth IRA can allow you to put aside more money for retirement—more money that’s completely yours once you’re ready to withdraw it.
Many people opt for a Self-Directed Roth IRA because of its long-term benefits and tax-free withdrawals. But it’s always good to weigh your options and consider how any Self-Directed IRA account type might help you. Interested in learning more about Self-Directed IRAs? Contact American IRA, LLC at 866-7500-IRA (472) for a free consultation. Download our free guides or visit us online at www.AmericanIRA.com.