A guide to Roth IRAs

This retirement savings account gives you a source of tax-free income.

Elissa Derek Silva

Elissa Suh & Derek Silva

Published October 30, 2020

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KEY TAKEAWAYS

  • Roth IRAs let you to invest for retirement without having to pay income tax when you withdraw your money

  • The maximum Roth IRA contribution for 2021 is $6,000 if you’re age 50 or younger, and $7,000 if you’re over age 50, which is unchanged from 2020

  • The 2021 income limits for contributing to a Roth IRA are $125,000 if your filing status is single and $198,000 if you’re married, filing jointly

  • Young tax filers and people early in their careers may especially benefit from the tax benefits of a Roth IRA

A Roth IRA is an individual retirement account that allows you to contribute money you already paid tax on, and invest that money without having to pay tax on your investment gains or on your withdrawals.

For the 2021 tax year, the annual contribution limit is $6,000 if you’re age 50 or younger, and $7,000 if you’re over age 50. (These numbers are unchanged from 2020.) You can only open and contribute to a Roth IRA if you have earned income. There are also income limits for most taxpayers starting at $125,000, but you may still be able to make a partial contribution if you’re over that limit.

Since your money is only taxed before you contribute to a Roth IRA, they may be a good option for someone who expects to be in a higher tax bracket in the future. For example, young taxpayers and people early in their careers are likely to have a higher annual income in their 60s compared to right now, so they could benefit from paying a lower income tax rate now instead of when they withdraw the money later.

Most people don’t save enough for retirement so it’s important to start saving as soon as possible, even if you don’t have a lot to invest. And because Tax Day was moved due to the COVID-19 pandemic, you could still make a 2019 Roth IRA contribution through July 15, 2020.

How does a Roth IRA work?

Individual retirement accounts (IRAs) offer tax benefits to help you invest for retirement without having to go through an employer. A Roth IRA takes after-tax contributions — meaning you already paid income tax — and then you can invest that money without having to pay any capital gains tax on the growth of your investments, or any income tax as you withdraw money from the account.

You can still open and contribute to an IRA if you have an employer-sponsored retirement plan, like a 401(k).

Who can open a Roth IRA in 2021

There are two income requirements for opening Roth IRA: you need to have earned income and you need to have an annual income below the annual limit.

Earned income includes basically any money you earn for doing work. For example, it does not include unemployment benefits, Social Security benefits, investment gains, or interest in a savings account.

The income limits in 2021 for opening a Roth IRA depend on your tax filing status and your annual income:

  • Single: $140,000 ($139,000 for 2020)
  • Married, filing jointly: $208,000 ($206,000 for 2020)
  • Head of Household: $140,000 ($130,000 for 2020)
  • Married, filing separately: $10,000 (same as in 2020)
  • Qualified widow(er): $208,000 ($206,000 for 2020)

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Roth IRA withdrawal rules

You can generally withdraw your contributions from a Roth IRA at any point, since you have already paid income tax on that money. But if you withdraw money within five years of opening the account, or if you withdraw earnings before age 59½, you will pay a penalty worth 10% of your withdrawal. Any earnings you withdraw are included as regular income on your taxes that year.

As an example, let’s say you contribute $5,000 to your Roth IRA, you invest that money, and then you make $2,000 from the investments so that your total balance is $7,000. You can withdraw any or all of the $5,000 without penalty after five years. However, if you’re younger than 59½ and you withdraw any part of the $2,000 of investment earnings, you will pay a penalty (with few exceptions) as well as income tax on the earnings you withdraw.

A withdrawal from an IRA is officially called a distribution.

Roth IRA early withdrawal penalty exceptions

The IRS lists nine main exceptions that allow you to withdraw earnings from a Roth IRA before age 59½ without paying penalties:

  • You have unreimbursed medical expenses that are more than 7.5% of your adjusted gross income. (You may qualify for the medical expense deduction.)
  • You used your distributions to pay the cost of your health insurance premiums due to unemployment (this includes COBRA coverage).
  • Your distributions were used to pay qualified higher education expenses.
  • You’re a first-time homebuyer and use your IRA distributions to buy, build, or rebuild a first home.
  • You are the beneficiary of an IRA. (You can usually withdraw without penalty from an IRA you inherit.)
  • You receive the distributions in the form of an annuity.
  • You meet the government’s definition of totally and permanently disabled.
  • You took the distribution as a qualified military reservist (see IRS publication 590b for more detail).
  • You took the distribution as part of the IRS seizing your account (through an IRS levy).

Roth IRA contribution limits in 2021

The contribution limit for a Roth IRA in 2021 is $6,000 if you’re 50 or younger and $7,000 if you’re older than 50. (These numbers are unchanged from 2020.) The extra $1,000 is called a catch-up contribution. This contribution limit applies to all IRA contributions for a single year, including those to other types of IRAs.

You can contribute to a Roth account at any age as long as your annual income — your modified adjusted gross income (MAGI) — is within the income limits for your filing status. Once your income is over the limit, there is an income range you need to consider: you can still make a partial contribution if your income is within the range but you can’t contribute anything if your income is above the range.

Your contributions are also limited to your earned income for the year; you can’t contribute anything to an IRA if you don’t have earned income. If you have a spouse who isn’t working or didn’t earn income during the year, you can make a contribution for them.

2021 Roth IRA income limits

Filing StatusMaximum income for full contributionMaximum income for partial contribution
Single filer$125,000$140,000
Head of household$125,000$140,000
Married, filing jointly$198,000$208,000
Married, filing separately and living apart from spouse$125,000$140,000
Married, filing separately and living with spouseYou cannot contribute the maximum$10,000

For 2021, single filers and heads of household can contribute the maximum amount to a Roth IRA if their MAGI is less than $125,000 ($124,000 in 2020). They can contribute a partial or reduced amount with MAGI between $125,000 and $140,000 (or between $124,000 and $139,000 in 2020). The same income limits apply to married couples who file separately and didn’t live together at all during the year. If you did live together at all, your earned income must be less than $10,000 to make any contribution.

If you file a joint return or are a qualifying widow(er), you can contribute the full amount if your MAGI is less than $198,000 in 2021 ($196,000 in 2020). Partial contributions are possible if your MAGI is between $198,000 and $208,000 (or $196,000 and $206,000 for 2020).

What if my income exceeds the Roth IRA income limits?

If your earnings exceed the income limits, you may still be able to contribute to a Roth IRA through a backdoor Roth IRA, a once-per-year conversion from a traditional IRA. You may also want to consider a traditional IRA, which has no income limits. However, you will have to pay taxes on the money when you withdraw it instead of when you contribute.

Roth IRA vs traditional IRA

The other main type of IRA is the traditional IRA. Roth IRAs and traditional IRAs both allow you to invest for retirement without paying any income tax on the growth of your investments, but there are a few differences to know.

The main difference between a Roth and traditional IRA is that traditional IRAs require you to pay income tax on your money when you withdraw it instead of before you contribute it. You can’t usually contribute to a traditional IRA with pre-tax money, the way you would with a 401(k), but you can claim a tax deduction for the amount you contribute to a traditional IRA. The IRA deduction reimburses you for the income tax you already paid, but it does phase out for people at higher income levels.

When you take a distribution from a traditional IRA, the amount you withdraw is included in your regular taxable income for the year. There are also required minimum distributions (RMDs) that require you to withdraw at least a certain amount each year once you turn age 70½ or 72.

You can have both a traditional IRA and Roth IRA, but remember that the contribution limit applies as a total across all IRA accounts.

Difference between Roth IRAs and traditional IRAs

Traditional IRARoth IRA
Income limitsNoneModified AGI limits based on filing status
Contribution limits$6,000 ($7,000 if older than 50)$6,000 ($7,000 if older than 50)
How you contributeAfter-tax dollars, but contributions are tax-deductibleAfter-tax dollars with no tax deductions
How your money growsTax-deferredTax-free
(Penalty-free) withdrawal qualifications59½ years-old and up59½ years old and up and an account at least five years-old
Withdrawal taxesTaxed as regular incomeNo income taxes
Required minimum distributionsStarting at age 70½ or 72None
Home buyer exceptionNo penalties for first-time home buyers under age 59½No penalties for first-time home buyers under age 59½

How to open a Roth IRA

You can open a Roth IRA at most banks or credit unions, asset-management companies, and online brokerages. The place where you open your IRA may also be called the account’s custodian.

Before opening a Roth IRA, it’s important to know what kind of fees they charge and what kind of investments they offer. Fees, like one just for opening an account or for making stock trades, can cut into your returns. Your returns will also depend on the investment options you have.

Most people will want access to at least exchange-traded funds (ETFs) and maybe mutual funds in their IRAs. These funds make it easy to invest even if you don’t know much about the stock market. Some services, like robo-advisors, will even make an investing portfolio for you so that you don’t even have to think about setting up your account. If you’re a more serious investor, you may want access to stocks, bonds, and other types of investments.

Common IRA providers are:

  • Fidelity Investments
  • Vanguard
  • Charles Schwab
  • T. Rowe Price
  • TD Ameritrade

For more help picking investments, talk with a financial advisor.

Information you need to open a Roth IRA

To open a Roth IRA, you should be ready to provide the following information:

  • Identification forms, like a U.S. driver’s license or passport
  • Your Social Security number (SSN) or Individual Taxpayer Identification Number (ITIN)
  • Your employer’s address and contact information
  • A way to fund your IRA: a check or money order your bank account number and routing number to transfer in money

We also suggest you name a beneficiary for your IRA. This person will get control of your account if you die (IRAs are a type of payable-on-death account). You’ll need the beneficiary’s name, address, and SSN. You can also name a trust as your beneficiary.

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Personal Finance Editor

Elissa Suh

Personal Finance Editor

Elissa is a personal finance editor at Policygenius in New York City. She writes about estate planning, mortgages, and occasionally health insurance. In the past she has written about film and music.

Personal Finance Expert

Derek Silva

Personal Finance Expert

Derek is a tax expert at Policygenius in New York City. He has written about multiple personal finance topics in the past, and his work has been covered by Yahoo Finance, MSN, Business Insider and CNBC.

Policygenius’ editorial content is not written by an insurance agent. It’s intended for informational purposes and should not be considered legal or financial advice. Consult a professional to learn what financial products are right for you.

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