Image source: Getty Images. The problem, however, is that most tax-efficient retirement savings plans make it difficult to leave money with your loved ones. This is because most of these plans impose what are known as Minimum Required Distributions, or RMDs.
Not only can RMDs increase your tax burden during retirement (if you are forced to withdraw funds from a traditional 401 (k) or IRA, that money becomes taxable income), but they also force you to spend your savings over the course of your life. rather than leaving it in an account benefiting from favorable tax treatment. And so, if you want to avoid RMDs and have the ability to pass the wealth on to your heirs, it pays to keep your savings in a Roth IRA.
RMDs start at age 72, and the amount you are required to withdraw from your savings each year depends on your account balance and your life expectancy at that time. Not taking an RMD carries a huge penalty – losing 50% of the amount you fail to withdraw.
The benefits of Roth IRAs
Some people may prefer not to save for their retirement in a Roth IRA because there is no upfront tax relief on contributions. On the other hand, if you put the money in a traditional IRA or 401 (k), you will not pay tax on the money that goes into it.
But Roth IRAs offer many advantages. Not only do they allow for tax-free investment gains and withdrawals in retirement, they are also the only tax-efficient long-term savings plan that does not impose an RMD. Even the Roth 401 (k), which also offer tax-free earnings and withdrawals, come with RMD.
Now, a tricky thing about Roth IRAs is that the highest earners aren’t allowed to fund one directly. But if your income exceeds the annual Roth IRA contribution limit, you have the option of putting money into a traditional IRA and then converting it to Roth.
More options for your hard-earned savings
You will pay tax on this conversion the year you make it, but then enjoy the tax benefits offered by Roth IRAs. And just as important, you’ll have the right to keep your money in your savings plan for as long as you want.
Some retirees cannot afford to leave their retirement savings untapped because they need the money to cover their expenses. But you may end up saving so much for your senior years that you don’t need everything. Or, your investments in your savings plan may be performing better than you expected, leaving you with more money than you need.
If you want the option to be as generous as you want with your loved ones, then a Roth IRA may be the optimal savings plan for you. That way, you decide what happens to the money you’ve worked hard to accumulate, not the IRS.
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