Saving on Taxes: Traditional or Roth?

by Murray Coleman - Monday, 23 January, 2023

Whether you're a millennial or mid-career professional, investing in a tax-efficient manner needs to be a top priority. As a result, understanding the differences between socking away money in a traditional — i.e., "pre-tax" account — or a Roth can make a big difference in how big of a nest egg you're able to build over a lifetime. 

"It's a tough call, though, to choose between a Roth and a traditional savings account — people don't really know where they'll be in 30 or 40 years," says Shareen Balkey, director of retirement services at Index Fund Advisors, which works with 60-plus corporate retirement plans.

In a traditional IRA, you can defer paying taxes on money contributed to such an account until making a withdrawl, which is usually in retirement. This type of a pre-tax, or "traditional," IRA is limited in terms of how much you can contribute each year. The maximum amount you can contribute to an IRA in 2023 in order to fully capture an IRA's tax benefits is $6,500 a person. In addition, a saver age 50 and older can contribute another $1,000.

Age stipulations do apply, though: Taking money out of a Roth account before age 59 1/2 is likely going to be taxed as regular income. Additionally, you'll face a 10% early withdrawal penalty. Below are some of a traditional (pre-tax) IRA's major features:

A Closer Look: Traditional IRAs*

  • Investment earnings are tax-deferred until withdrawal.
  • Eligible contributions may reduce taxable income.
  • Most withdrawals are generally taxed as ordinary income.
  • Withdrawals prior to age 59.5 are subject to income tax and a 10% penalty.
  • In certain situations, an employee can contribute outside of a workplace retirement plan to a traditional IRA. Depending on an employee's income, these contributions may or may not be deductible.
  • For 2023, the contribution limit is $6,500 with a catch up contribution of $1,000 for those age 50 or older.
  • Accounts are subject to Required Minimum Distributions (RMDs). In 2023, those age 73 and older will likely need to start taking RMDs. In 2033, that age will be bumped up to 75.
  • Individuals must have wages and/or income subject to self-employment tax to contribute.

Source: John Dahlin, CPA and head of IFA Taxes.
* This list is for general educational purposes only. Actual applications of IRS rules can vary greatly. Contact your tax professional for specific details about making retirement contributions.

On the other hand, a Roth IRA, lets you contribute on an "after-tax" basis. This means you pay taxes now in return for an ability to withdraw any investment gains in a tax-free manner during retirement. Like with a traditional IRA, you'll be assessed a 10% penalty by the IRS if you take money out before age 59 1/2. In a Roth, though, withdrawals of earnings are tax-free if five years have passed since the (tax) year of your first contribution. (The table below highlights a Roth IRA's major features.)

"Deferring taxes until later through a traditional IRA account probably seems like the sensible thing to do in most cases," says John Dahlin, a certified public accountant (CPA) and head of IFA Taxes. "Still, taxpayers should realize that future tax rates are unknown and can be adjusted by Congress at any point. So it's a wise long-term tax strategy to at least consider some of the more attractive benefits of using a Roth." 

A Closer Look: Roth IRAs*

  • Withdrawals of contributions are generally tax and penalty free.
  • Withdrawals of earnings are tax free if five years have passed since the tax year of your first contribution. A 10% penalty will apply to those withdrawals if made prior to age 59.5.
  • Once you turn age 59.5, you can withdraw any amount without having to pay the 10% penalty. Providing five years have passed, these withdrawals would also not be subject to income tax.
  • For 2023, the contribution limit is $6,500 with a catch up contribution of $1,000 for those age 50 or older. 
  • Not subject to Required Minimum Distributions (RMDs) at any age and contributions can typically be made at any age.
  • Don't generally increase a retiree's tax rate, Medicare premiums or taxation of Social Security benefits since distributions are generally not taxable.
  • Individuals must have wages and/or self-employment income to contribute. 

Source: John Dahlin, CPA and head of IFA Taxes.  
* This list is for general educational purposes only. Actual applications of IRS rules can vary greatly. Contact your tax professional for specific details about making retirement contributions.

Of course, this traditional versus Roth question doesn't need to be a black-and-white decision. "Depending on an individual's specific tax situation, it might be beneficial to diversify your retirement accounts," says Dahlin. "You can always put some of your assets in a Roth account and the rest in a pre-tax IRA account." 

Such a tax planning strategy, however, won't allow you to contribute twice as much. "No matter how many different IRA accounts you use, the same annual cap on contributions apply," says Dahlin. "For example, in 2023 you can't exceed a total of $6,500 if you're age 50 or younger. For those 50 and older, you're limited to $1,000 per person for catch-up contributions — no matter whether you use one IRA or two."

At the same time, it's important to keep in mind that most employers offer pre-tax retirement savings accounts. Many of these 401(k) and 403(b) retirement plans let employees choose between traditional and Roth accounts. In general, these workplace retirement accounts include the same tax-friendly features of IRAs. Namely, the pre-tax and post-tax options are treated by the IRS in much the same fashion in terms of reporting your income each year. 

In too many instances, however, we run across workers who complain about rather slim pickings in choices between index-based investment options and active managers. They also come to us sounding red flags about the amount of fees they're being asked to pay, both at the fund and plan management level. 

Another caveat: Retirement plan sponsors set their own policies about when and how much employees can withdraw from a 401(k) account before retirement. In addition, each year the IRS adjusts individual contribution limits and income thresholds at different levels. In 2023, 401(k) and 403(b) plan participants can contribute up to $22,500. Those age 50 or older can pitch in another $7,500.

Although workplace retirement plan options can be highly variable and unique to each company sponsored retirement plan, the basic principles of saving through a traditional or a Roth are similar in nature as far as investing your savings in a tax-efficient manner.

A general rule-of-thumb is that if you expect to pay less in taxes after retiring, then it's probably a better bet to use a traditional 401(k) or deductible IRA, points out Dahlin. That's due to a general perception that earnings levels will drop once you stop working full-time, hence so will your effective tax rate.

The trade-off is that taxes usually must be paid in most cases upon any withdrawals from such a pool of savings in retirement.

Of course, missing in any broad debate about tax efficiencies is a litany of contingent rules and regulations regarding appropriate uses of Roths and traditional IRAs. "Each investment situation is different, making tax applications of such broad-based rules a highly individualized process," says Dahlin.

As a result, we encourage anyone with retirement planning questions to take advantage of an IFA wealth advisor's objective set of eyes to ensure they're investing in an effective and tax-savvy manner. For those who aren't already clients, a free initial consultation can help to answer some of these more pressing concerns. That's true for a financial planning session with an advisor or a tax-focused meeting with IFA Taxes' Dahlin.  

This is not to be construed as an offer, solicitation, recommendation, or endorsement of any particular security, product or service. There is no guarantee investment strategies will be successful. Investing involves risks, including possible loss of principal. Performance may contain both live and back-tested data. Data is provided for illustrative purposes only, it does not represent actual performance of any client portfolio or account and it should not be interpreted as an indication of such performance. IFA Index Portfolios are recommended based on time horizon and risk tolerance. For more information about Index Fund Advisors, Inc, please review our brochure at or visit This is intended to be informational in nature and should not be construed as tax advice. IFA Taxes is a division of Index Fund Advisors, Inc.

Certified Public Accountant (CPA) is a license to provide accounting services to the public awarded by states upon passing their respective course work requirements and the Uniform Certified Public Accounting Examination.