As U.S. taxpayers contemplate funding IRAs, they may wonder which type of IRA - Roth or Traditional - is the better choice. If you are one of these individuals, here is an outline of some of the differences between the two retirement accounts, their eligibility requirements and other factors to consider when choosing the account that's right for you.

Contribution Limits
The contribution limits for the Roth and Traditional IRAs are the same. For tax year 2007, for example, you could contribute up to $4,000 to your IRA, plus an additional $1,000 catch-up contribution if you reached age 50 or older by the end of the 2007 tax year. Here is a chart outlining contribution limits for tax years:

Tax Year	Regular Contribution Limit	-	Tax Year	Additional Catch-Up Contribution Limit
2007	$4,000		2007	$1,000
2008	$5,000		2008	$1,000
2009 and beyond	$5,000		2009 and beyond	$1,000

Deductibility
One of the major factors for deciding between a Roth and Traditional IRA is your eligibility to deduct Traditional IRA contributions and in turn get a tax break for the year you make the contribution. Your eligibility to deduct Traditional IRA contributions, however, depends on whether you meet certain requirements. Contributions to Roth IRAs are never deductible (see the chapter "Contributions" in the tutorial Roth IRAs).

Contribution Age Limitations
If you want to be able to contribute to your IRA for as long as you like, you need to consider the age limits placed on IRA contributions. You may not make a participant contribution to a Traditional IRA after and for the year you reach age 70.5. For Roth IRAs, there is no age limit.

Income Limitations
One factor that determines whether a Roth or Traditional IRA is better for you is your income, which dictates your eligibility to contribute to a Roth IRA. To be eligible, your income must be the following:

• no more than $166,000 if you are married and file a joint tax return.
• no more than $10,000 if you are married and lived with your spouse for any period during the tax year, but filed a separate tax return.
• no more than $114,000 if you file as "single", "head of household" or "married filing separately" and did not live with your spouse at any time during the tax year.

If your income exceeds the amounts indicated above, you may not contribute to a Roth IRA. In addition, your Roth IRA contribution limit may be lowered if your income falls within certain ranges (between a certain amount and the income limits listed above). Consult with your tax advisor to determine the maximum amount you may contribution to a Roth IRA.(For more on this subject, see our tutorial on Roth IRAs.)

Income caps do not apply to Traditional IRA contributions.

Required Minimum Distributions
If you don't ever want to be required to start distributing your retirement assets at any time, you need to consider the IRA rules for required minimum distributions (RMD). With a Traditional IRA, you must begin to take RMDs by April 1 of the year following the year you reach age 70.5. This means you must gradually reduce your IRA balance and add the distributed amount to your income, even if you are not in need of the funds.
Roth IRA owners are not subjected to RMD rules.

Tax Treatment of Distributions
The tax treatment of distributions is a big factor that determines whether the Roth or Traditional IRA is better for you. Generally, distributions from a Traditional IRA are treated as ordinary income and may be subject to income taxes; furthermore, the distributed amount may be subjected to early-distribution penalties if the amount is withdrawn while the taxpayer is under the age of 59.5.

On the other hand, qualified Roth IRA distributions are tax and penalty free. Roth IRA distributions are qualified if they meet the following two requirements:

1. The distributions are taken no earlier than five years after the taxpayer funds his or her first Roth IRA. This five-year period begins with the tax year for which the first contribution is made. For example, if you make a Roth IRA contribution in April 2008 for tax year 2007, your five-year period begins January 1, 2007, because the contribution was made for 2007.
2. The distribution is taken as a result of any one of the following:
   • You have reached age 59.5.
   • You are disabled.
   • Your beneficiary receives the distribution upon your death.
   • You purchase a first home (subject to a lifetime limit of $10,000).

From a general tax perspective, the Roth IRA is the better choice if your tax rate during retirement will not be lower than your current tax rate, as the Roth IRA allows you to pay the taxes now, and receive tax-free distributions when your income tax rate is higher. If your tax rate will be lower during retirement, then the Traditional IRA may be the better choice if you are eligible to receive a tax deduction now when your tax rate is higher.

Your financial planner will help you determine whether there are other factors to consider that would make either IRA more suitable for your tax-related financial planning needs.

Splitting Your Contribution
If you are eligible to contribute to both types of IRAs, you might want to divide your contributions between your Roth and Traditional IRA; however, your total contribution to both IRAs still must not exceed the limit for that tax year (plus the catch-up contribution).

If you decide to split your contributions between both types of IRAs, you may choose to contribute the deductible amount to your Traditional IRA (see Traditional IRA Deductibility Limits) and the balance to your Roth IRA. Let's assume for example that the maximum amount you could have deducted for the 2007 tax year was $2,000. You could've contributed $2,000 to your Traditional IRA and the balance of $2,000 to your Roth IRA.

Before splitting your IRAs, however, consider additional fees, such as maintenance fees charged by your IRA custodian/trustee for maintaining two separate IRAs. Note also that placing bulk trades into one IRA instead of placing separate trades in separate IRAs could help you save on trade-related fees. Finally, consider the short-term benefits as well as the long-term benefits and decide which outweighs the other.

Summary
The following chart summarizes the similarities and differences between the Roth and Traditional IRAs:

	Roth IRA	Traditional IRA
Contribution Limit	The year's regular contribution limit plus a catch-up contribution for those at least 50 years old by year end.	The year's regular contribution limit plus a catch-up contribution for those at least 50 years old by year end.
Deductibility	Contributions are never deductible.	Contributions may be deductible, depending on tax-filing and active-participant statuses, as well as income amount.
Age Limitation	No age limitations on contributions.	No contributions allowed after and for the year the taxpayer attains age 70.5.
Tax Credit	Available for 'saver's tax credit'. (See Increased Savings Opportunity.)	Available for 'saver's tax credit'. (See Increased Savings Opportunity.)
Income Caps for Contributions	Income caps may prevent taxpayers from contributing.	No income caps will prevent taxpayers from contributing
Treatment of Earnings on IRA Investments	Earnings grow tax deferred. Qualified distributions are tax free, including distribution of earnings.	Earnings grow on a tax-deferred basis. Earnings are added to taxable income for the year distributed.
Distributions Rules	Distributions may be taken at anytime. Distributions are tax and penalty free if qualified.	Distributions may be taken at any time. Distributions will be treated as ordinary income and may be subjected to an early-distribution penalty if withdrawn while the owner is under the age of 59.5.
Required Minimum Distribution	Owners are not subject to the RMD rules. However, beneficiaries are subject to the RMD rules.	IRA owners must begin distributing minimum amounts beginning April 1 of the year following the year they turn age 70.5. Beneficiaries are also subject to the RMD rules.

Deciding Which Is Better
For some taxpayers, their eligibility to deduct Traditional IRA contributions is the main deciding factor in choosing between a Roth and Traditional IRA. However, being eligible to deduct your contribution does not mean that the Traditional IRA is your better choice. Consider whether the benefits of the Roth IRA - such as freedom from the RMD rules and taxes, and penalty-free distributions - outweigh the benefits of a deduction.

You may contribute to a Traditional IRA and elect not to claim the tax deduction even though you are eligible to do so. The benefit of not taking a deduction is that the distribution of the equivalent amount is tax and penalty free - like the distributions of the Roth IRA. The earnings distributed from the Traditional IRA, however, will be treated as taxable income, whereas qualified distributions of earnings from a Roth IRA are tax free.

Finally, you may split your contribution between both types of IRAs and enjoy the benefits of both.

Be sure to consult with your tax professional, as there are usually other factors that could determine which options are most suitable to meet your financial needs.

by Denise Appleby (Contact Author | Biography)

Denise Appleby is a retirement plans consultant, freelance writer and editor. Before starting her own business, Appleby Retirement Consulting, Denise worked for Pershing LLC for almost 10 years. While at Pershing, Denise rose to the rank of vice president, and held many positions including retirement plans product manager, manager of the retirement plans technical assistance group and retirement plans training manager. Appleby Retirement Consulting provides technical assistance to financial institutions and financial professionals; content for newsletters, websites and magazines; and technical editing services for books and other retirement plans material. Denise holds several retirement professional designations.