Roth IRAs: Do’s and Don’ts About Investing and Trading

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Roth IRAs vs. Traditional IRAs
Roth IRAs Traditional IRAs
contribute Contributions are not tax deductible Contributions may be tax deductible
Contribution Limits $6,000 in 2022; $6,500 in 2023 $6,000 in 2022; $6,500 in 2023
Catch-up contribution $1,000 if you are 50 or older $1,000 if you are 50 or older
Income limits Not eligible to contribute if Adjusted Adjusted Gross Income (MAGI) exceeds $144,000 ($153,000 in 2023) for single filers or $214.00 ($228,000 in 2023) if you are married and have a joint submits request No income limits
Recordings Tax and penalty free if you are at least 59½ years old and it has been at least five years since you first contributed to a Roth IRA No penalty if you are at least 59½ years old, but withdrawals are taxed as ordinary income
Age limit for contributions No age limit No age limit
RMDs No RMDs for the life of the account owner RMDs start at age 73 or 75, depending on the year you were born

Popular Roth IRA Investments

Roth IRAs can hold just about any financial asset except life insurance and collectibles; the “big box” IRA companies (e.g., Charles Schwab, Fidelity, and Vanguard) typically stick to the assets they sell (and make money from), such as stocks, bonds, and mutual funds. If you want to access non-traditional assets like real estate and precious metals, you need a custodian that offers a special account called a self-directed IRA (SDIRA).

Here’s an overview of some of the more popular investments for standard (i.e. not self-directed) Roth IRAs:

  • Shares: Income-oriented stocks that pay high dividends or growth stocks that can generate high returns.
  • Bonds: interest-paying debt instruments offered by the United States government, states and municipalities.
  • Investment funds: professionally managed mutual funds that can offer simplicity, low costs and diversification.
  • Exchange Traded Funds (ETFs): Baskets of securities traded as individual stocks, offering diversification, low costs, and high potential returns.
  • Target date funds: a diversified mix of equities and fixed income investments that automatically rebalances as you approach retirement.
  • Real Estate Investment Funds (REITs): companies that own, operate or finance income-producing real estate and pay dividends to investors.

Prohibited IRA Investments

There are a handful of investments you cannot hold in a Roth IRA:

  • Life insurance
  • Collectibles, including art, carpets, metals, antiques, precious stones, stamps, most coins, alcoholic beverages and certain other tangible personal property

According to the Internal Revenue Service (IRS), if you invest your IRA in a collectible, the amount you invest is considered divided in the year you acquired the item — and you may have to pay a 10% penalty on the early spread.

While coins are generally prohibited in IRAs, you can invest in U.S. one-, half-, quarter-, or tenth-ounce gold coins or one-ounce silver coins minted by the U.S. Treasury Department. An IRA can also invest in some platinum coins and certain gold, silver, palladium, and platinum.

Prohibited Roth IRA transactions

A prohibited transaction in a Roth or traditional IRA is any improper use of the account by the owner, its beneficiary, or a disqualified person, including the owner’s fiduciary or relatives. The IRS strictly prohibits the following transactions in IRAs:

  • Borrow money from an IRA
  • Selling real estate to an IRA
  • Using an IRA as collateral for a loan
  • Buy property for personal use with IRA funds

Margin Accounts and Roth IRAs

Margin accounts are brokerage accounts that allow you to borrow money from your brokerage firm to purchase securities. The broker charges interest and the securities are used as collateral. Margin allows you to buy more securities with less of your own money, magnifying both profits and losses.

Because the IRS prohibits using an IRA as security for a loan, you generally cannot use margin to trade with an IRA. If you do, the IRS may consider the entire IRA distributed. This means you owe income tax on the full IRA amount, plus a 10% penalty if you’re under age 59½ or if it’s been less than five years since you first contributed to an IRA.

Still, some brokers allow something known as “limited margin,” which is the same as getting a cash advance on the securities you sell. For example, if you sell a share of your IRA, there may be a delay between the execution of the transaction and when you receive the money in your account. If you have a limited margin account, you can make another trade while you wait for the previous trade to settle – the stock sale in our example. This allows you to manage the investments in the account faster and more conveniently.

Unlike a standard margin account, you cannot trade short positions or set naked options positions in a limited margin account.

A limited margin is available for most IRA types, including the Roth, Traditional, Simplified Employee Retirement (SEP) and Savings Incentive Match Plan for Employees (SIMPLE) varieties. Brokers that allow limited margin IRAs have specific eligibility requirements (e.g. minimum balance) and your account must be approved for this type of margin before you can place trades.

Roth IRA Withdrawals

In general, the withdrawal rules for Roth IRAs are more flexible than for traditional IRAs and 401(k)s.

Roth IRA withdrawal rules differ depending on whether you withdraw your contributions or your investment income. Contributions are the money you put into an IRA, while income and earnings are your profits. Both grow tax-free on your account.

  • Withdraw contributions: You can withdraw your Roth IRA contributions at any time, for any reason, with no taxes or penalties. That’s because contributions are funded with after-tax dollars, so you’ve already paid income tax on that money.
  • Withdraw income: If you withdraw IRA income, you may be subject to income tax and a 10% penalty, depending on your age and how long you’ve had the account.

In general, you can withdraw your earnings without taxes or penalties if:

  • You are at least 59½ years old.
  • It has been at least five years since you first contributed to a Roth IRA. This is called the five-year rule.

Can You Lose Money on a Roth Individual Retirement Account (Roth IRA)?

Because of the tax benefits, Roth individual retirement accounts (Roth IRAs) are one of the best options available for retirement savers; however, like other investments, your Roth IRA can lose money. For example, you could lose money in your Roth IRA due to market drops, early withdrawal penalties, or because the account hasn’t had enough time to cooperate.

Should I convert my traditional IRA to a Roth IRA?

What is the 5-year rule for Roth IRA withdrawals?

You can withdraw your Roth IRA contributions at any time without tax or penalty, no matter how old you are; however, the withdrawal of income is only tax- and penalty-free if you are at least 59½ years old and meet a five-year period known as the five-year rule. The five-year period begins on January 1 of the tax year in which you first contributed to a Roth.

So, for example, if you opened a Roth IRA in April 2022 and designated the contribution for the 2021 tax year, your five-year period will begin in January 2021 and end on December 31, 2025. Assuming you are at least 59½ years old, you can beginning January 1, 2026, withdraw your earnings from any Roth IRA you own tax- and penalty-free.

It comes down to

Roth IRAs are a popular way to save for retirement because of their tax benefits and lack of RMDs. While many investors stick to stocks, bonds, and mutual funds for their Roth IRAs, investing in non-traditional assets like real estate and cryptocurrency is possible if you have an SDIRA.

Keep in mind, of course, that alternative investments have greater profit potential, but also more risk. As such, SDIRAs are generally best suited to investors who already have significant experience buying and selling non-traditional assets and understand the tax implications of those investments.

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