What 50-Year-Olds Need To Know About Roth IRAs

If you’re in your 50s, you may be at (or close to) your peak earning years. You also might be starting to think more seriously about retirement and whether you’ll have enough money set aside when the day comes. If you have a Roth individual retirement account (Roth IRA) as part of your retirement mix or are thinking of getting one, here is what you need to know.

What Is a Roth IRA?

Roth IRAs, as you may know, work much like traditional IRAs—but in reverse. While a traditional IRA offers an immediate tax deduction for the money that you contribute, Roth IRAs do not. Withdrawals from your Roth IRA, however, can be tax-free, while withdrawals from a traditional IRA are taxed as ordinary income.

There are several other differences between the two types of IRAs that can make the Roth variety more advantageous for some people. For example, you can withdraw your contributions to a Roth IRA (but not its earnings) at any time without incurring taxes or penalties. With a traditional IRA, by contrast, you’ll generally owe income tax on the money, plus a 10% penalty if you’re under age 59½.

This means that a portion of the money in your Roth account will always be immediately available to you if you need it. Therefore, some parents use Roth IRAs to help save for college. If a child needs the money for tuition, it’s there, and if a child doesn’t need it, then the parent will have it for retirement.

In addition, Roth IRAs are not subject to required minimum distributions (RMDs) during your lifetime, unlike traditional IRAs, from which you must generally begin withdrawals when you reach age 73 if you were born between 1951 and 1959 or 75 if you were born in 1960 or after. Thus, with a Roth, if you don’t need the money in retirement, you can just let it continue to compound and leave it to your grateful heirs someday. They will, however, have to withdraw it eventually—typically within five or 10 years, depending on their relationship to you.

Roth IRA Withdrawal Rules

To get the full tax benefit from a Roth IRA, you’ll need to follow some rules. To withdraw any of your account’s earnings tax-free, you must have had a Roth IRA (it can be any Roth IRA) open for at least five years. Also, you must be at least 59½ years old or face an additional 10% early withdrawal penalty.

However, there are several exceptions to the early withdrawal penalty. For example, it is waived if you become disabled, regardless of your age at the time. You also can withdraw up to $10,000 (one time only) to buy, build, or rebuild a first home for yourself, a child, or a grandchild.

Starting a New Roth IRA

If you would like to open a new Roth IRA (as opposed to rolling over money from a traditional IRA or another retirement plan), you’ll need to be within the income limits—or else use a backdoor Roth IRA strategy, which we’ll get to.  

In 2022, for example, married couples who file a joint tax return can make a full Roth IRA contribution if their modified adjusted gross income (MAGI) is less than $204,000. If it’s $204,000 to $214,000, they can make a reduced contribution. If their MAGI exceeds $214,000, they aren’t eligible to contribute. In 2023, the MAGI must be less than $218,000 and no more than $228,000 to contribute. 

The maximum Roth IRA contribution for 2022 is $7,000 if you’re age 50 or older, or $6,000 if you’re younger. That’s per person; couples can double the amount if they both have IRAs. For 2023, the numbers are $7,500 and $6,500, respectively.

Backdoor Roth Loophole

To get around the income limits, some taxpayers use a two-step strategy that has come to be known as a backdoor Roth IRA:

• Step one — You contribute money to a traditional IRA, which has no income limits on eligibility; however, your income can affect how much of your contribution is tax deductible.
• Step two — You convert the traditional IRA into a Roth IRA. You will have to pay income tax on the money that you convert, but you would have paid tax anyway had you been allowed to contribute to a Roth IRA to begin with.

Backdoor Roths have their critics, who see them as circumventing Congress’ intentions in setting income limits. There have been attempts to curtail their use, most recently in the Biden administration’s stalled Build Back Better bill, but the strategy remains legal.

Converting Your Traditional IRA Into a Roth IRA

Converting a traditional IRA into a Roth isn’t just a tax dodge for the wealthy. Anyone with a traditional IRA can roll over all or part of it into a Roth. There are no limits on the amount of money that you can convert, but you will have to pay income tax on it. The question to ask yourself is whether it makes more sense in your situation to convert and pay the taxes now (in return for tax-free income later) or just keep the money in your traditional IRA and worry about the taxes later.

Consider Your Tax Bracket

One consideration is whether you expect to be in a lower tax bracket after you retire than you are in today, in which case waiting could make sense. Another is whether today’s tax rates will remain in place 10, 20, or more years from now. No one knows, of course, but if tax rates end up rising substantially, then converting sooner rather than later could be a smart move. 

If you decide to convert, you may want to spread the process over several years, especially if a lot of money is involved. Taking too big of a chunk at one time might mean that some or all of that money will push you into an unnecessarily high marginal tax bracket.

In 2022, for example, a single taxpayer will pay 24% on income from $89,705 to $170,050 and 32% on income from $170,050 to $215,950. Thus, if they earn $100,000 a year, they could convert up to $100,000 and pay 24% tax on the transaction; however, anything beyond $170,050 would jump up to a rate of 32% or higher. They could save at least 8% simply by waiting another year to move more money.

Look at Your Income

If your income takes a dip in a particular year—possibly due to a layoff, a slow economy, or early retirement—that can also create a good opportunity to do a conversion at a lower tax cost. Similarly, if the stock market is in a slump—and if that’s where much of your traditional IRA is invested—you’ll pay less in taxes than you would when the market rebounds and your account’s holdings are worth more.

Bear in mind that there is ordinarily a 10% penalty if you withdraw any of the money that you converted within the first five years of opening a Roth account; however, there’s an exception once you reach age 59½. In addition, you’ll avoid the penalty if you already have some kind of Roth IRA in your name.

For that reason, it could pay to open a Roth account as soon as possible and start the five-year clock ticking, even if you don’t anticipate doing a conversion for several years.

Rolling Over a 401(k) (or Similar Plan) Into a Roth IRA

A final way to get yourself a Roth IRA is to roll over a 401(k), 403(b), or 457(b) plan when you leave your current job or if you still happen to have one from your time with a former employer. As with converting from a traditional IRA, you’ll owe income tax on the money. If it’s a substantial sum, you might want to roll a portion into a Roth and the rest into a traditional IRA, to be converted later.

The Bottom Line

Even if your retirement is 10, 20, or more years off, now is a good time to consider the pros and cons of a Roth IRA. The main pro is tax-free income during retirement. The main con is a potentially whopping tax bill now; however, if you believe a Roth IRA makes sense for you, there are ways to get one while also minimizing the tax burden.