Save money today with a traditional IRA or a Roth IRA, and enjoy your retirement tomorrow.

Congress created the first Individual Retirement Account, an "IRA",  more than 25 years ago, to give Americans additional opportunities to put aside money for retirement.  Today, fewer and fewer employers are offering formal pension plans.  Instead, they rely on 401-k plans, where the employee and employer carry the responsibility of participation, to fund the retirement of the employee.  Furthermore, in challenging economic times, employers may reduce or eliminate, matching contributions, thereby putting more pressure on the individual to fund his or her own retirement with additional savings.  The point is, an IRA or Roth IRA is an additional opportunity to save for retirement.

Financing your retirement comes down to three essential sources:

1) Social Security
2) 401(k), or other company sponsored retirement plans
3) Personal Savings

When it comes to personal savings, a traditional IRA, or a Roth IRA, will help you save tax efficiently.   Below, you will see the limits for IRA and Roth IRA contributions.

IRA LIMITS FOR 2010

Using the chart above, how much can you set aside?

As listed above, contribution limits for regular IRAs and Roth IRAs are $5,000 for 2010. In addition, catch-up provisions allow workers age 50 and older to contribute an extra $1,000.  If you're skeptical about what a difference an extra $1,000 a year in savings can make for each and everyone of us, here is a brief example.  If you actually save $6,000 a year instead of $5,000 for 20 years, and you earn an average return of 5% per year, you'll end up with a total of $208,316, versus $173,596.  That’s 20% more money to spend in retirement.  

It is important to note that some people just make too much money, and therefore, are not eligible to utilize a Roth IRA.  In 2010, benefits phase out for single people with an adjusted gross income greater than $120,000, and for married couples with incomes greater than $177,000.  
A Roth IRA is an Individual Retirement Account allowed under the tax law, and it is named for its chief legislative sponsor, Senator William Roth of Delaware.  
Regarding the role of personal savings as a source of income in retirement, Americans now have to make a choice between a Traditional IRA or a Roth IRA.  The big difference between a Traditional IRA vs. a Roth IRA is the taxes you pay going in, and the taxes you pay as you take the money out.

As long as you have earned income, traditional IRA contributions can be tax-deductible, or non-deductible if you are already contributing the maximum allowed under current IRS guidelines.  Roth contributions are not tax deductible, as they are being made with after-tax dollars. 

A traditional IRA allows your earnings to grow tax–deferred, but you will pay income tax on the distributions, at some time in the future.  In contrast to a traditional IRA, Roth IRA contributions are made with after-tax dollars, your earnings grow tax-free, and you will not pay income tax on the distributions.  If you would like to have a tax-free income source when you are in retirement, the Roth IRA should be the concept of choice.

If you are eligible, consider stashing your personal retirement savings in a Roth IRA!  Depending on your age, consider the fact that your contributions to a Roth IRA may include decades of compounded, tax-free, earnings growth.  This means that all of your withdrawals in retirement, coming from your Roth IRA, will be tax-free. 

You may roll your existing IRA into a Roth IRA, which is considered a Roth conversion.

The Roth IRA is a variation of the original IRA, but the Roth IRA  lets you withdraw principal and earnings completely tax-free after age 59½, provided, the contributions have been in the plan at least five years. If tax-free income in retirement is of interest to you, you have the opportunity to convert your traditional IRA into a Roth IRA. 

A "Roth conversion" is accomplished by filling out conversion paperwork.  Keep in mind that you are responsible for paying income tax at the time of conversion. Depending on current IRS guidelines, you may be able to pay the tax over a number of years.

Unlike traditional IRAs, Roth IRAs have two distinct advantages, besides tax-free earnings growth, and tax-free withdrawals. A Roth IRA will not require you to: 1) take the minimum distributions at age 70½, that you would be required to take under the rules of a traditional IRA, and 2) the Roth IRA allows you to keep making contributions as long as you like, provided you have earned income.

There are estate preservation advantages when using the Roth IRA.

Here's how it works:

Under traditional IRA rules, you would have to start taking minimum withdrawals, commonly referred to as required minimum distributions, as soon as you turn age 70 ½, which will obviously result in a depletion of IRA account value. But with the Roth IRA, you are not required to withdraw money during your lifetime. While the value of the Roth IRA will be subject to estate taxes, your heirs wouldn't have to pay income tax on the money as they withdraw it over their single life expectancy.

Because a Roth IRA permits your heirs to withdrawal the money you have left them over their single life expectancy, consider the advantage to your beneficiaries. As they are likely younger than you, (the IRA owner), they will have a longer period of time to withdraw the money you have left for them,  leaving the money in the account to compound tax-free, for a greater length of time. Think about that!  For example, this means if your heir inherited the Roth IRA at age 40, he or she would have a 43.6 year life expectancy (based on the single life expectancy table), and would be entitled to withdraw money from the Roth IRA, which would be compounding tax free, over the 43.6 years.

If your heirs chose to leave assets in the Roth IRA, the tax-free compounding can lead to a much greater sum, than if the money had stayed in a traditional IRA. However, it is important to be aware of a caveat, or a rule. If the heirs are to ensure a lifetime income stream from a Roth IRA, they must make the first withdrawal by December 31 of the year after the IRA owner's death. If they don't, they must cash out the account by the end of the fifth year following the year of death of the owner’s death.

In regard to estate preservation, if you are concerned about paying taxes on a "Roth conversion", (where you roll existing qualified money or a traditional IRA into a Roth, and receive a 1099 for the full amount of the qualified funds), think of it as a way to reduce estate taxes. By paying the money up front in taxes upon conversion, you're reducing your taxable estate.  

A Roth IRA could be a valuable nest egg for your golden years in retirement, and/or a guaranteed stream of tax-free income for you or your children. Either way, it's worth your consideration.

The above information is educational and should not be interpreted as financial advice. For advice that is specific to your circumstances, you should consult a financial or tax adviser.