YourFinanceQuestions.com

I recently acquired a little over a thousand dollars. I’ve been constantly hearing about Roth IRA’s and how they’re a really good option. What’s the difference between putting your money there versus putting it in a savings account? Should I even put my money in a Roth IRA? Thanks for your help. – Ryan, 22, Potomac, MD

Ryan,
Roth IRAs offer an attractive investment opportunity. The major benefit of Roth IRAs is that they offer an investor tax-free growth and withdrawals for all the contributions to, and gains in, the account. The major drawback is that every dollar contributed to a Roth IRA is after-tax and contributions are not tax deductible. The general rule is that if an investor is in a low tax bracket, a Roth IRA makes sense because there is the potential that in the future the investor will be in a higher tax bracket. On the opposite end, if a person is in a high tax bracket, they are probably better off investing in a traditional IRA because their contributions will reduce their taxable income.

There are a few differences between a Roth IRA and a savings account. With a Roth IRA, an investor can only contribute up to $5,000 in 2008 whereas savings accounts have no limit. In your situation, you have $1,000 so this presumably is not an issue. The major difference between the two is that the Roth IRA will offer you tax-free growth of your money, while you will get taxed on all interest earned from a savings account. The length of time you plan on not needing to access the $1,000 is the most important factor in your decision. Early non-qualified distributions (See IRS Publication 590 for all of the specifics) are taxed at 10%. Therefore, if you are absolutely sure that you will not need the $1,000 in the near future, I would recommend putting it into a Roth IRA. Otherwise, you are better off putting it into the savings account.