Roth or Traditional IRA: Start With Your Tax Situation

March 11, 2024 · Financial Forte Staff

Historical article: prepared retrospectively using information available as of March 11, 2024.

The Roth-versus-traditional IRA question is often framed as a prediction: will your tax rate be higher or lower in retirement? That matters, but it isn't the first fact to establish. You also need to know whether you can make the contribution, whether a traditional contribution would be deductible and which tax year you intend to fund.

Start with today's verified tax situation, then consider a reasonable range of future possibilities. Choosing an IRA should connect the tax treatment with your cash flow and retirement plan, rather than depend on certainty about tax rates many years away.

Separate contribution eligibility from a deduction

An IRA is a tax arrangement, not a particular investment. A traditional IRA contribution may be deductible, while a Roth IRA contribution is made without a current deduction. Qualified Roth withdrawals can be tax-free; traditional withdrawals are generally taxable to the extent they represent deductible contributions and earnings.^[1]

Eligibility and limits still apply. Taxable compensation, filing status, income and workplace-plan coverage can affect the analysis. Being allowed to contribute to a traditional IRA is not the same as being allowed to deduct the contribution. Direct Roth contributions also have income restrictions.

In March 2024, someone making an IRA contribution needs to distinguish a contribution for 2023 from one for 2024. The applicable annual limits are different. For an eligible person under age 50, the general limit is $6,500 for 2023 and $7,000 for 2024, subject to compensation and other rules. The combined traditional-and-Roth IRA limit is not a separate full allowance for each account.^[1][2] Tell the custodian which year the contribution is for and retain the confirmation; the deposit date alone does not communicate your intention.

Keep that contribution confirmation with your tax records so the custodian, preparer and return all use the same year.

Compare taxes using the same assumptions

Consider a hypothetical saver, Chris, evaluating a $6,000 contribution. Assume Chris is eligible to make it, a traditional contribution would be fully deductible and each dollar of that deduction would reduce federal income tax at a 22 percent marginal rate.

Under those assumptions, the deduction would reduce federal tax by $1,320: $6,000 multiplied by 22 percent. State taxes, credits and other interactions are excluded from this simplified illustration. The actual tax effect could differ. The $6,000 traditional contribution would then cost $4,680 after the assumed current federal tax saving; a $6,000 Roth contribution would cost $6,000 because it provides no current deduction. That compares current household cost only, not future after-tax retirement income. If the deduction were unavailable, that assumed $1,320 current benefit would disappear; the comparison would need to include any nondeductible basis and its reporting.

If Chris uses a Roth IRA instead, there is no current deduction for the contribution. That means the immediate cash-flow comparison differs, even though both accounts show a $6,000 deposit. The traditional contribution's tax saving could support another goal or additional saving, but only if Chris actually uses it that way. For an equal-household-cost comparison, account for what happens to the tax saving rather than assuming it is invested.

The future comparison also needs care. A traditional account's balance may carry a future tax obligation, while qualified Roth withdrawals receive different treatment. Comparing equal account balances without considering those taxes can obscure the trade-off.

This example does not establish which account will produce the better result. It identifies the present cost of choosing the Roth treatment under a specific set of assumptions, so the future flexibility can be weighed against something concrete.

Think about the income around future withdrawals

Your retirement tax situation will depend on more than whether employment ends. Pensions, Social Security, other account withdrawals, investment income and a spouse's circumstances can affect the picture. Future law is uncertain, too.

Someone expecting a temporarily low-income year now might reasonably give more attention to Roth saving. Someone receiving a valuable deduction during a high-income year might prefer deductible traditional saving. In both cases, the decision needs actual eligibility and tax information rather than a broad assumption based on age.

Holding different types of accounts may provide options when deciding where future spending money comes from. That flexibility can be useful, but it does not mean every person needs an equal balance in each account or that splitting contributions is automatically best.

Before deciding, compare at least two plausible future circumstances. A strategy that depends on one exact tax prediction deserves more scrutiny than one you can adapt as income and rules change.

Keep access and recordkeeping in the discussion

Retirement saving should fit alongside accessible money for near-term needs. Different withdrawal rules apply to contributions, conversions and earnings, and early distributions can create tax or additional-tax consequences. Don't choose an account primarily because you assume you can remove all of its money at any time without cost.^[3]

If a traditional IRA contribution is nondeductible, maintaining the required basis records matters. Without those records, a later withdrawal can become harder to report correctly. A nondeductible contribution also introduces considerations that go beyond a simple deductible-traditional-versus-Roth comparison.

An existing IRA balance, a planned conversion or a workplace retirement account can change the broader analysis. The most useful first step may be organizing those accounts and contribution records rather than immediately adding another one.

Make the decision with this year's facts

Gather your filing status, estimated income, workplace-plan coverage and existing IRA contributions. Confirm the intended tax year, contribution eligibility and actual deduction before modeling an account choice.

Then ask what the current tax benefit or cost would accomplish in your household and how the account fits future spending. You don't need to know every future tax rate. You do need a decision that makes sense under today's rules and remains understandable when circumstances change.

Related reading

• Roth Contributions and Roth Conversions Are Different Decisions
• Tax Diversification Gives You More Withdrawal Choices

Have more questions about choosing between a Roth and traditional IRA? Complete the Financial Forte questionnaire to get started on connecting with an advisor who can help answer your questions and explore next steps.

The contact invitation is current; it does not imply this contact path existed on the historical reference date.

Educational information, not personalized investment, tax, legal or benefits advice. Examples use hypothetical assumptions. Verify current rules and your circumstances before acting.

Sources

• [1] Contributions to IRAs — Publication 590-A (2023) — 2024-03-04; 2023 edition; Distributions from IRAs — Publication 590-B (2022) — 2023-04-04; 2022 edition (printed first-page date confirmed)
• [2] IRS announces 2024 retirement limits — IR-2023-203 — 2023-11-01
• [3] Distributions from IRAs — Publication 590-B (2022) — 2023-04-04; 2022 edition (printed first-page date confirmed)