Disadvantages of Roth IRAs Every Investor Should Know

A Roth individual retirement account (IRA) is a retirement savings account that an individual can contribute to each year. Under certain circumstances, funds may be withdrawn tax-free.

The money saved in a Roth IRA can be invested in financial instruments, such as stocks, bonds, or savings accounts. Contributions to a Roth IRA are made with after-tax money, meaning the contributions are made after income tax has been withdrawn from the account holder’s salary.

Roth IRAs provide a long-term tax benefit, as withdrawals of contributions and investment income are not taxed upon retirement. However, Roth IRAs may not be the right retirement account for everyone. While there are advantages to Roth IRAs, there are also obvious disadvantages to be aware of.

Key learning points

  • Roth individual retirement accounts (IRAs) offer several key benefits, including tax-free growth, tax-free withdrawals upon retirement, and no required minimum distributions (RMDs). However, they also have drawbacks.
  • One major drawback: Roth IRA contributions are made with after-tax money, meaning there are no tax deductions in the contribution year.
  • Another drawback is that withdrawals of account income should not be made until at least five years have passed since the first deposit.
  • This five-year rule can make Roths less favorable to open if you’re already in middle age.
  • Roth IRAs’ tax-free distributions may not be beneficial if you’re in a lower tax bracket when you retire.

Roth vs. Traditional IRA

Roth and traditional IRAs are excellent ways to set aside money for retirement. However, there are annual contribution limits.

Before 2023, individuals can contribute up to $6,500 per year or $7,500 if they are 50 years of age or older.

To contribute to either one, you must have earned income, which is money you earn from working or running a business. You also cannot deposit more than you have earned in a given year.

Despite these similarities, the accounts are actually quite different. Below are the disadvantages of Roth IRAs.

Roth IRA Income Limits

One downside to the Roth IRA is that you can’t contribute to it if you make too much money. The limits are based on your modified adjusted gross income (MAGI) and tax return status. To find your MAGI, start with your adjusted gross income (AGI) — you’ll find it on your tax return — and add certain deductions.

In general:

  • You can contribute the full amount if your MAGI is less than a certain amount.
  • You can make a partial contribution if your MAGI is in the phase-out range.
  • If your MAGI is too high, you won’t be able to contribute at all.

Below is a breakdown of Roth IRA income and contribution limits for 2022 and 2023.

2022 Roth IRA Income and Contribution Limits
Submission Status MAY I Contribution limit
Married filing jointly or eligible widow(er)
Less than $204,000 $6,000 ($7,000 if age 50+)
$204,000 to $214,000 Phasing out range
$214,000 or more Not eligible for direct Roth IRA
Married submit separately
Less than $10,000 Phasing out range
$10,000 or more Not eligible for direct Roth IRA
Single or family head
Less than $129,000 $6,000 ($7,000 if age 50+)
$129,000 to $144,000 Phasing out range
$144,000 Not eligible for direct Roth IRA
2023 Roth IRA Income and Contribution Limits
Submission Status MAY I Contribution limit
Married filing jointly or eligible widow(er)
Less than $218,000 $6,500 ($7,500 if 50+)
$218,000 to $228,000 Phasing out range
$228,000 or more Not eligible for direct Roth IRA
Married submit separately
Less than $10,000 Phasing out range
$10,000 or more Not eligible for direct Roth IRA
Single or family head
Less than $138,000 $6,500 ($7,500 if 50+)
$138,000 to $153,000 Phasing out range
$153,000 or more Not eligible for direct Roth IRA

Married taxpayers filing separately can use the single/household limits if they have not lived with their spouse at any time during the tax year.

Backdoor Roth IRA

There is a tricky but perfectly legal way for high-income earners to contribute to a Roth IRA, even if their income exceeds the limits. This is called a backdoor Roth IRA, which means you contribute to a traditional IRA and immediately deposit the money into a Roth account.

This transaction must be conducted strictly according to the rules of the Internal Revenue Service (IRS).

Roth IRA Tax Deductions

The main difference between traditional and Roth IRAs appears when the taxes are due.

A traditional IRA deducts your contributions the year you earn them. This provides an immediate tax advantage so that you have more money in your pocket. The downside is that income tax is due on both your contribution and the money you earn when you withdraw money during retirement.

Roth IRAs work the other way around. You don’t get a tax break up front, but retirement withdrawals are generally tax-free.

That sounds good, but can be a disadvantage for some investors.

You make Roth IRA contributions with after-tax dollars, so you don’t get the traditional IRA upfront offer for tax benefits.

Here’s why: No upfront tax break means you get less money on your paycheck to spend, save and invest. And tax-free withdrawals in retirement are something to look forward to, unless you’re going to fall into a lower tax bracket in the future than you are now.

Depending on your situation, you can take more of the upfront tax benefit of a traditional IRA and then pay taxes at your lower rate in retirement. It’s worth going through the numbers before making any decisions, as there may be a lot of money at stake.

Roth IRA Withdrawal Rules

With a Roth IRA, you can withdraw your contributions at any time, for any reason, without tax or penalty. Additionally, qualifying withdrawals (including contributions and account earnings) upon retirement are also tax-free and penalty-free. To qualify, withdrawals must occur when you are at least 59½ years old and it has been at least five years since you first contributed to a Roth IRA, otherwise known as the five-year rule.

If you don’t meet the five-year rule, any income you withdraw may be subject to taxes or a 10% penalty — or both, depending on your age:

  • 59 years and under: Withdrawals of income are subject to taxes and a 10% penalty. You may be able to avoid the penalty (but not the taxes) if you use the money toward a first home purchase or certain other exemptions.
  • Ages 59½ and older: Withdrawal of income is subject to taxes, but no penalties.

The five-year rule can be a disadvantage if you start a Roth later in life. For example, if you first contributed to a Roth at age 58, you must wait until age 63 to make tax-free withdrawals.

Can I withdraw contributions without activating the five-year rule?

Yes. Your contributions can be withdrawn at any time without penalty or taxes. Only the earnings fall under the five-year rule.

What is my Adjusted Adjusted Gross Income (MAGI)?

Your adjusted adjusted gross income (MAGI) is your adjusted gross income (AGI) with a few deductions. Re-applied deductions include half of self-employment taxes, student loan interest deductions, rental losses, and more.

Do Roth and Traditional Individual Retirement Accounts (IRAs) Have the Same Income Limits?

No. There are no income limits for contributing to a traditional individual retirement account (IRA). Roth IRAs base your ability to contribute the maximum of $6,500 before 2023 on your MAGI. People over the age of 50 can contribute an additional $1,000 catch-up fee. However, the deduction for your contributions to a traditional IRA may be limited if you or your spouse are covered by a retirement plan at work and your income exceeds certain levels.

It comes down to

Roth IRAs offer many benefits; tax-free growth, tax-free withdrawals upon retirement, and no required minimum benefits (RMDs) from age 72. However, there are potential drawbacks.

Typically, individuals benefit from saving for retirement in an IRA. However, whether a traditional or Roth IRA is better depends on several factors, including your income, age, and when you expect to be in a lower tax bracket — now or in retirement. Consult a tax professional, financial planner or financial advisor to help you make a more informed decision so that your retirement plan is tailored to your specific financial situation.

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