A Roth IRA first and foremost protects you from paying taxes from most of your withdrawals, but in some cases there are penalties, but you can avoid these if you follow the Roth IRA tax rules.
This article will cover most of the areas that you need to be concerned with regarding what you do with your Roth IRA. It isn’t extremely complicated but if for any reason you don’t feel comfortable with anything you can always go see a tax accountant, they will be very familiar with the tax rules for IRAs.
A Roth IRA offers many benefits, and is based on the following premise:
- You pay tax on your income and then contribute it to your Roth IRA
- You can withdraw the contributions tax free at any time
- You can withdraw the earnings tax free as long as you meet the required conditions
Unfortunately it is not always this simple; sometimes you may not meet certain conditions and may have to pay penalties or taxes.
Types of Contributions and Rules
Quite simply, there are never any penalties or taxes that you pay when withdrawing previous contributions that you have made. Any withdrawals you make from your account will come from your previous contributions first.
The Roth IRA tax rules dictate that earnings that you make from your contributions and conversions are tax and penalty free as long as you meet the following guidelines:
- The Roth IRA account must be at least 5 years old(note that this time period is from the date of the first contribution)
- You are at least 59.5 years of age
- Up to $10,000 can be used tax and penalty free to buy a first-time home
- If you become disabled before any withdrawals you will not pay penalties or taxes
If you do not meet one of the first 2 conditions, and the withdrawal does not fall under the 3rd or 4th point, it is considered a non-qualified withdrawal, which is subject to a 10% penalty and income tax.
Taxable Conversions (Tax deduction allowed on conversion)
These conversion funds are also tax free when you withdraw them, but not always penalty free. If you do not meet the conditions above (In ‘Earnings’) your withdrawal will be subject to a 10% early withdrawal fee.
Non-Taxable Conversions (No tax deduction allowed on conversion)
Since no tax deduction was allowed when the funds were converted from the traditional to Roth IRA, for the most part these are treated exactly like normal contributions. As such, these funds are always tax and penalty free, the only stipulation is that if they are withdrawn, they must be done so after the normal contributions have all been withdraw, which isn’t really a big deal.
This has been an overview of the Roth IRA tax rules, if you want more information on your Roth IRA visit the homepage, or use the links in the sidebar to navigate to our other articles.