IRA stands for individual retirement account, so it's literally an account that individuals can use to save for retirement. Most financial institutions offer IRAs as a product, alongside other financial accounts like a savings account or brokerage. When you open an IRA, you decide how to invest the money that's inside the account, the same way you would with a regular brokerage investment account. You can also buy insurance products such as deferred annuities that are designated as IRAs, which mostly affects how the money is taxed through the years.
Here's what's the same between traditional and Roth IRAs
There are two types of IRAs: traditional (often called 'pre-tax') and Roth. Financial institutions also often offer "rollover" IRAs, which is really just a traditional or Roth IRA that's funded with money that's rolled over from another retirement plan such as a 401(k) or 403(b).
Both have the same contribution limit. Each year you can add up to the IRS-designated limit to an IRA – for 2023, the limit is $6,500 in total across all types, with an additional $7,500 annual catch-up amount if you are 50 or older.
Both have the same contribution deadline. You can add money to your IRA account up until the April tax filing deadline and designate it a prior year contribution.
Here’s what’s different
How they are taxed – Contributions to a traditional IRA may be deductible, while Roth IRA contributions are tax-free. Withdrawals from a traditional IRA are taxable, while qualified withdrawals from a Roth IRA are tax-free.
Age limit – You cannot contribute to a traditional IRA after age 70 ½, when you must begin withdrawals. With a Roth IRA, there is no age limit.
Income requirement – Anyone can contribute to a traditional IRA regardless of income, but you may not be able to deduct it if you have a workplace retirement plan available and make over the IRS limits for that year. If you have a Roth IRA, you cannot make contributions once your income exceeds the limits set by the IRS.
When you can withdraw – At age 59 ½, you may make a withdrawal from a traditional IRA, unless you meet certain exceptions. With a Roth IRA, you may withdraw contributions at any time. Growth can be withdrawn after reaching age 59 ½ if the Roth IRA is at least 5 years old. There is an exception for first time home purchase.
Required distributions – You must take distributions from a traditional IRA at age 70 ½. There are no required distributions during your lifetime with a Roth IRA.
How do you choose?
The biggest difference between the two types of IRAs is how the money is taxed. If you think you'll be in a lower tax bracket when you're making withdrawals from your IRA than you are when you're making contributions, then a traditional IRA would make more sense, assuming you can deduct your contributions.
On the flipside, if you think you'll be in the same or higher tax bracket in retirement, then a Roth IRA might make more sense so that you can have tax-free income in retirement and enjoy tax-free growth of your savings.
What if you have both?
It's common to have both types of IRA, which is totally fine. You can decide each year which one you want to contribute to, or you could split your contributions between both (remember the total amount can't exceed the annual limit).
Additionally, if you have traditional IRA money that you'd like to convert to a Roth IRA (for example, if you find yourself in a year with lower income than normal and want to go ahead and pay the taxes at a lower rate), you can do that at any time, up to the full value of your traditional IRA. Just remember that you cannot undo that decision, so if you convert your traditional IRA to Roth IRA and then the value of your account drops, you still have to pay tax on the value that the account was on the day your converted it.
For more information, visit ssa.gov.