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Looking for a tax break? Roth after-tax contributions just might be the ticket—provided you meet certain conditions. In this article, we’ll tell you what you need to know.
Roth contributions can provide tax-free retirement income
When you make pre-tax contributions to your retirement plan account, you pay taxes later—when you take the money out.
When you make Roth contributions, you pay taxes now. But you get a break later on.
When you take your money out, you won’t owe federal tax on your Roth contributions or their earnings, as long as you meet both of these conditions:
- You’re at least age 59½.
- You made your first Roth contribution at least five years before.
Roth contributions can protect against rising tax rates
Over time, tax rates go up and down. None of us knows what tax rates will be in the future. One way to deal with this uncertainty is to have at least some Roth savings.
If you make Roth contributions and tax rates rise, you’ll have at least some Roth money you can take tax-free. As long as you’re at least age 59½ and made your first Roth contribution at least five years before, you won’t owe tax on your distribution.
Roth contributions can preserve your money for you and your heirs
If you have Roth money in your plan, you usually have to start taking required minimum distributions (RMDs) once you reach age 73.*
But if you roll over the Roth money from your retirement plan to a Roth IRA, those mandatory withdrawals are no longer required. Not having to take RMDs means you can hold on to tax-free income until later in your retirement. And, while it’s still invested, that money can continue to grow. Note: For taxable years beginning on or after January 1, 2024, Roth 401(k) money will not be subject to RMDs.
It’s not just you who might benefit from a Roth IRA. It also offers tax advantages for your beneficiaries. Whoever inherits your Roth IRA would not have to pay income tax on distributions, as long as the first Roth contribution was made at least five years before.
- If your spouse inherits the account, they would not be subject to RMDs, allowing the money to grow tax-free.
- If someone other than your spouse inherits the Roth IRA, they must withdraw all the money from the account within 10 years.
*In most cases, you'll need to start taking distributions at age 72 if you reached that age before 2023.
Whenever you invest, there’s a chance you could lose the money.
Whether you keep your money where it is, move it to an IRA, or move it to another employer's plan depends on your situation and preferences. Some things to consider are available investments and services, fees and expenses, and protection from creditors. Also consider withdrawal penalties, required distributions, and the tax effects of moving company stock to an IRA. There are other factors too. Weigh the pros and cons before you make the decision.
Taxes: Taking money from your retirement account can affect how much you’ll have to pay in taxes. You’ll owe taxes on pre-tax money. You won’t owe taxes on Roth earnings as long as you are age 59½ or older and it’s been at least five years since your first Roth contribution. If required by law, Vanguard will withhold some taxes for you. You may need to pay a 10% federal penalty tax if you take money out early.
Vanguard does not provide individual tax advice. You should consult with your tax advisor before making any decisions as to your specific circumstances.