Traditional IRA or Roth IRA?

Even though individuals have until the tax filing deadline next April to make all of their contributions to a Traditional or Roth IRA, really it would be wiser to start thinking about that stuff now, before the holiday spending begins. Which one is best for you--Traditional IRA or Roth IRA?
Depends.
Do you make a decent six-figure income? If so, the Roth is not an option. If not, however, the Roth IRA is a great option for people who want to put away some money now that will come out tax-free in retirement. So, basically, if you have a job and are making less than $100,000 your tax planner will likely concur that you can make your maximum contribution to a Roth IRA--at least $5,500 currently.
Are you covered by a retirement plan at work? If not, you could instead fund a Traditional IRA, and it doesn't even matter how much money you make. Seriously. If you work for a n employer with no retirement plan, you can almost certainly maximize and deduct your contribution to a Traditional IRA. As always, check with a CPA first.
Just yesterday I was talking to a woman who is 59 and has very little saved up for retirement. After an extended set-back after losing a job and then taking a new one that paid about 1/2 of what she used to make, she is about to get re-hired by a good company with a 401(k) plan. In order to catch up, she needs to maximize her 401(k) option, which would let her put aside up to around $20,000 between her and her employer's contributions. Since she'll never earn $100,000, she can also take advantage of a Roth IRA. The Traditional IRA for her is not attractive, as her 401(k) participation plus her income level (around $70,000) will remove her ability to deduct a contribution to a Traditional IRA.  She could  put an after-tax contribution into a Traditional IRA, but I see no reason to do that, not when her income is well south of the cut-off for Roth contributions. Need help with your Series 7

Fun with IRAs

Remember that when you're doing the 1,500 or so practice questions in our new Pass the 7 ExamCram Online Test Prep, you're seeing questions that should be very similar to what you'll see on the test. But only some of them will seem like close replicas; many of the questions at the testing center are going to shock the heck out of you. Half of those shockers are really familiar concepts that have been distorted so horribly that you no longer recognize what you're being asked. The other half are just questions no one could have known would show up based on the exam outline. That's why you have to develop test-taking skills. You need to use process of elimination so that you will minimize the errors that people make on questions they sort of knew and maximize the number you get right on questions your sort of don't. Let's enjoy a practice question on IRAs and approach it with all the skill and strategy you can muster:

Which of the following is true of a Roth Individual Retirement Arrangement but not a Traditional Individual Retirement Arrangement?
A. REITs may be held within the account
B. income limits prevent the deductibility of contributions
C. income limits prohibit certain individuals from making contributions
D. withdrawals must begin the year following the individual's 70 1/2th birthday

EXPLANATION: your job is to read each answer choice and ask first if it's true about Roth IRAs and then, is it not true of Traditional IRAs. Start with A--is that true of a Roth; can you buy REITs in it? Sure? Is that not true of the Traditional IRA? No, you can also buy them in a Traditional IRA, so choice "A" is eliminated. Your odds now rise from 25% to 33.3%. What about B--do income limits prevent the deductibility of contributions? Uh-oh. You don't deduct contributions to a Roth, so I guess income limits don't affect the deductibility. Unless you're reading it wrong, which is what the question wants you to worry about. Hmm. What about C--do income limits prohibit individuals from making contributions to their Roth IRA? Yes. Does that happen in a Traditional IRA? Actually, no, it does not. But most people confuse this statment with whether a rich person with a 401K established can deduct her contribution to a Traditonal IRA--totally different question. Of course, you're all turned around now and might not recognize that you just found the right answer--you did. But, you have to eliminate D before you pull the trigger. When do withdrawals have to begin in the Roth? They don't. So, D is, in fact, eliminated. And, even though "B" left us confused, "C" is our best answer.

Excellent, only 259 more questions to go.

IRA Contributions

Let's look at a practice question on IRA contributions.

Which of the following could reduce the amount that an individual may contribute to a Traditional IRA?
A. Roth IRA contributions made for the year
B. High income level
C. Participation in an employer-sponsored plan
D. All of the choices listed

EXPLANATION: if you were going too fast, you might have been tricked by this one. The other choices only affect how much can be deducted from the contribution, but anyone with earned income can contribute to their Traditional IRA.

ANSWER: A

Withdrawals from a Traditional IRA

Here's a good practice question for you:

Which of the following represent tax-free withdrawals from a Traditional IRA?
I. withdrawals pursuant to a first-time purchase of a primary residence
II. withdrawals pursuant to permanent disability
III. withdrawals before age 59 1/2

A. I, II
B. I, II, III
C. III
D. none of the choices listed

This question is designed to look easy--most people in the business know that withdrawals used toward a purchase of a first home or because of disability are not subject to the 10% penalty, and, therefore, they start heading down that dead-end. The question asked which withdrawals from a Traditional IRA are not taxable. The answer? None of the choices listed.
Withdrawals from a Traditional IRA are taxable. Some withdrawals result in a 10% penalty tax, some do not, but you can't answer the question you thought you were being asked; you have to make sure you see what the angle is. Read practice questions carefully and try to spot any possible tricks before proceeding.

Tough Question on Retirement Accounts

Let's look at a tough practice question early on a Saturday morning:

Which of the following are examples of tax-free withdrawals from a Traditional Individual Retirement Arrangement for an individual 52 years of age?
I. first-time purchase of a primary residence
II. certain medical expenses
III. certain educational expenses
IV. series of substantally equal periodic payments under IRS Rule 72t
A. I, II, III
B. II, III
C. I, II, III, IV
D. none of the choices listed

Did you choose Answer C? No? Answer A? Maybe you saw the trap and chose the correct answer, which is Answer . . . D. None of the choices listed. See, the four Roman numerals given are examples of penalty-free withdrawals from an IRA, but, the more important concept is that withdrawals from your Traditional IRA are taxable. If they come out prior to age 59 1/2 they are also penalized, unless there is a provision allowing the individual to take out some money without paying that penalty. If you want to take up to $10,000 out of your IRA to buy your first residence, you will not be penalized; however, you will add the $10,000 to your taxable income for the year and pay your marginal tax rate on it. Same for the other three choices.
Not all questions are trick questions, but you need to look them over to make sure there is not a trick before proceeding.
If you would like more information on IRA's use the link below. If it doesn't work, click on the title of this post and then type in "publication 590" at the IRS website. I think the following link will take you right to the publication, though:
http://www.irs.gov/pub/irs-pdf/p590.pdf