Tax Planning and Smart Retirement Strategies: ROTH

Welcome to our latest blog post based on the podcast “Business by the Numbers” (to listen instead, click here for episode 79)


As summer winds down, Paar Melis delves deep into tax planning for our clients, reviewing the year’s financial progress and forecasting the upcoming months. Our primary focus? Crafting strategies to minimize taxes intelligently and efficiently.


A top strategy I often recommend for potential tax savings is contributing to retirement accounts. You might be familiar with both taxable and pre-tax retirement accounts, but did you know there are instances when it might be beneficial not to take a retirement deduction? That’s our topic of discussion today.


But first, a quick disclaimer: this blog doesn’t aim to provide investment or specific retirement advice. While I specialize in accounting, I’m not a financial planner or investment expert. My goal here is to educate you about available options, ensuring you’re informed when speaking with professionals.


Tax professionals, like me, often collaborate with retirement advisors, given that many strategies hinge on tax implications. Lawyers, too, play a pivotal role in business-related decisions, though they typically focus on the legal aspects. It’s essential to combine insights from both legal and financial perspectives to get a well-rounded view.


Having addressed that, let’s talk about Individual Retirement Accounts (IRAs) and 401(k)s. I’ve covered these topics in past posts, primarily focusing on pre-tax contributions like traditional IRAs and 401(k)s. Their popularity largely stems from the immediate tax benefits they offer.


Roth IRAs and Roth 401(k)s

However, there’s another side to this coin: Roth IRAs and Roth 401(k)s. For today’s discussion, think of them as almost identical. The major distinction lies in contribution amounts, but their basic functioning remains the same. Unlike traditional IRAs, where you benefit from tax deductions upfront, with Roth IRAs, you’re investing post-tax money.


This brings us to a critical advantage of Roth accounts: flexibility. For instance, if you’ve contributed $20,000 to a Roth 401(k) and find yourself in dire straits the following year, needing to withdraw funds, you can tap into the amount you’ve contributed without penalties (though rules apply to any earnings on that amount). This level of flexibility can be especially appealing to those hesitant about locking away funds for the long term.


When considering which Roth account to invest in, contribution limits can play a decisive role. For individuals, Roth IRAs allow annual contributions of $6,000 (or $7,000 if you’re 50 or older). In contrast, Roth 401(k)s follow the same limits as traditional 401(k)s, permitting up to $22,500 (or $30,000 for those 50 or older) annually.


If you’re a business owner without a 401(k) setup, consider establishing one to take advantage of these higher limits. And for those already contributing to a 401(k), speak with your plan administrator about Roth options.


Another distinctive feature of a Roth IRA, which doesn’t typically show up in other retirement accounts, is its income limitation. A single individual earning more than $144,000 annually can’t contribute to a Roth IRA. For married couples, the limit is $214,000. Surpass these thresholds, and your best bet might be the Roth 401k. If you can’t access a Roth 401k for any reason, there’s still a way called “backdoor Roth conversions”, but I’ll recommend consulting a financial advisor for these trickier methods.

nlike traditional IRAs, where you benefit from tax deductions upfront, with Roth IRAs, you’re investing post-tax money.”

The Potential of Roth IRAs:

To understand the potential of Roth IRAs, let’s compare investing $5,000 in a traditional IRA and a ROTH IRA. With a traditional IRA, you might get a tax deduction now, but when you withdraw your funds in the future, you’ll owe taxes on the entire amount, including your gains. With a Roth IRA, the money you invest now is post-tax. But when retirement comes, and your money has grown, you won’t owe a single cent in taxes.


Peter Thiel’s IRA:

Speaking of the massive potential of Roth IRAs, we can’t skip the story of Peter Thiel, an early PayPal investor. In just over two decades, his Roth IRA saw a meteoric rise from a mere $2,000 to an astounding $5 billion. He achieved this through smart investment choices, leveraging startup shares, and maximizing the capabilities of a Roth IRA. While the specifics of his strategy remain undisclosed, his story is a testament to the power of Roth IRAs when used creatively.

Keep in mind, though, that Thiel’s success with his Roth IRA is an exception rather than the rule. The vast majority of Roth IRA holders won’t see anywhere near this level of growth. Thiel had unique access to early-stage investments in tech companies that would go on to be massive successes, and he had the financial acumen to leverage his Roth IRA in this way.


This story serves as a powerful reminder of the potential benefits of tax-advantaged accounts like Roth IRAs, especially when combined with savvy investment decisions. However, for most individuals, the primary benefit of a Roth IRA is its tax-free growth and withdrawals, which can be a key component of a well-rounded retirement strategy.


It’s also worth noting that the strategies and maneuvers utilized by wealthy individuals like Thiel often come under scrutiny. Some argue that these types of strategies, while legal, exploit loopholes in the tax code and provide disproportionate benefits to the wealthy. As always, when considering any financial strategy, it’s essential to consult with financial professionals and understand the implications, risks, and benefits.


Professional Guidance and Early Investment

Roth IRA vs. Traditional Brokerage Account

When it comes to investing, the choices you make can have long-term implications on your wealth accumulation. Consider a traditional brokerage account, for example. Taxes on your gains can considerably shrink your capital. Imagine making a $10,000 profit and having to set aside $2,000 or even $1,500 for taxes. What remains for reinvestment? Perhaps $8,500.


Now, envision a different scenario where you set up your investment in a Roth IRA instead of a regular account in your personal name. The tax dynamics change dramatically. Gains within a Roth IRA, whether $500 or $5,000, remain untouched by taxes as long as you don’t withdraw them. This tax advantage ensures that you have a larger capital pool for future reinvestments. So while a regular account might get hit with taxes every time you make a move, the Roth IRA remains a sheltered space.


Investing for Kids: A Head Start

Many might think that Roth IRAs are the domain of the working adult. But what if you could give your child a financial head start? While kids typically don’t have traditional jobs, those who earn, say by contributing to a family business, can direct their earnings into a Roth IRA. It’s a potent way to introduce them to the world of investing early on.


The math is simple yet powerful. Early investments, even small ones, can harness the power of compound interest, transforming into considerable sums over time. If started early, by the time they become adults, they could have a significant nest egg, offering them a substantial advantage for future endeavors or retirement.


Why Seek Professional Advice?

Navigating the complex world of investments and taxes might feel daunting for many. While some might consider going solo, there’s undeniable value in professional guidance. From uncovering lucrative opportunities to strategizing for maximum gains, experts in the field have the insights and experience to elevate your financial journey.


Think of it as an investment in itself. The fees you pay for professional advice, whether for tax planning, retirement strategies, or investment insights, often bring a return on investment. It’s not about knowing everything but knowing whom to turn to. As the saying goes, you don’t need to be an expert in everything, but you do need to find one.


Looking for expert advice on Roth IRAs and retirement planning? Contact us at Info@PaarMelis.com

& Don’t forget to check out our other free resources below 



Accessibility Toolbar