Between long hours, research commitments, studying for boards, and whatever other obligations you may have as a resident, saving for retirement probably isn’t at the top of your list. The Roth IRA, however, is the best option you have as a young resident before entering a much higher tax bracket after residency. In short, the Roth IRA is a great retirement tool that you should start taking advantage of NOW.
What is a Roth IRA?
Anyone with an earned income can contribute up to $5,500 a year to their Roth IRA (or up to $6,500 a year if you are age 50 or older). The key difference between a Roth IRA and a traditional IRA (Individual Retirement Account) is that the funds you put into your Roth are post-tax. Traditional IRAs are pre-tax and tax-deductible.
If you make too much money, however, then you are ineligible to contribute to a Roth IRA. For the 2017 year, if your modified AGI (Adjusted Gross Income) is more than $118K (single) or $186K (married), then you can’t contribute to a Roth. Here is where most dentists and specialists are unable to make direct contributions throughout their career. That being said, because there are no income limits to Roth IRA conversions, the Backdoor Roth IRA option is still open (future post coming!).
Tax Advantages
The beauty of the Roth IRA is that once you put in your after-tax money, you will never be taxed again. Specifically, no taxes are paid on capital gains and dividends as the money grows. As such, the main benefit is that when you withdraw these funds in retirement, everything comes back to you tax-free. By contributing to a Roth as a resident, you are putting away after-tax money while in a relatively low tax bracket (perhaps the 15% income tax bracket after deductions and exemptions).
In addition, the tax diversification you gain from having a Roth IRA will help minimize the taxes you pay over your lifetime. That is, the fact of having both post-tax (Roth IRA) and pre-tax (traditional IRAs and 401ks) investment accounts diversifies your taxes and reduces your tax burden. Funding a Roth early on such as during residency will give you a good mix of tax-free and tax-deferred accounts during retirement.
Flexibility
In addition to tax advantages, another big advantage of having a Roth is that you can withdraw contributions at any time without incurring a 10% penalty. In tax-deferred accounts like Traditional IRAs and 401ks, it is quite difficult to withdraw contributions without a penalty prior to age 59 ½. Consequently, the flexibility conveyed from a Roth almost makes it serve as a last-resort source of emergency funds should you find yourself in a dire situation.
Moreover, once you hit 70 ½ you must make required minimum distributions (RMDs) from tax-deferred accounts. Roths, on the other hand, have no mandatory withdrawals, thus conveying even greater flexibility.
Bottom Line
The take-away is that you should try to max out your Roth IRA up to the limit of $5,500 annually (or up to $11,000 if you have a spouse depending on your situation) as a resident. Chances are, you probably won’t have any more than that to contribute anyways. Starting to save for retirement during residency also gets you to begin forming good habits that will last with you throughout life.
Have any tips on how to save money during residency? Encounter any additional pros/cons for opening a Roth? Comment below!
Loading ...
No responses yet