By Eljona Shkreli

It’s that time of year again—tax season! We’re all busy wrapping up statements, filing tax returns, and making those last-minute IRA contributions. 

For many of us, retirement accounts have been a significant topic since early adulthood. Some of us got it right from the start and reaped the rewards, while others, like me, didn’t take it seriously until later in life and had to play catch-up with our 401(k)s. 

Retirement planning is a crucial part of financial management and choosing the right retirement accounts can greatly impact your financial security in your golden years. One of the most powerful tools in retirement planning is the Roth IRA. In this brief article, I want to resurface the benefits of Roth IRAs, including tax-free withdrawals and how they can help manage tax brackets in retirement. 

What is a Roth IRA? 

Think of a Roth IRA as a special savings account for your retirement that can help you save on taxes down the road, especially if you think you’ll be in a higher tax bracket later. With a Roth IRA, you put in money that’s already been taxed. This is different from a traditional IRA, where you contribute pretax dollars. The great thing is both your contributions, and any earnings grow tax-free. 

You can take out the money you contributed to your Roth IRA anytime without paying taxes. Plus, you can withdraw your investment earnings tax-free, as long as you’re at least 59½ years old and have had the account for at least five years. 

A Roth IRA might be a good choice if you expect to be in a higher tax bracket in the future or if you want your investments to grow without being taxed. 

Benefits of Roth IRAs 

1. Tax-Free Withdrawals One of the best things about Roth IRAs is that you can make tax-free withdrawals in retirement. Unlike traditional IRAs, where you have to pay taxes on your withdrawals, Roth IRAs let you take out your contributions and earnings tax-free, as long as you meet certain conditions. This is a huge advantage, especially if you think you’ll be in a higher tax bracket when you retire. 
2. No Required Minimum Distributions (RMDs) Unlike traditional IRAs and 401(k)s, Roth IRAs don’t have required minimum distributions (RMDs) during your lifetime. This means you can let your investments grow tax-free for as long as you want, giving you more flexibility in managing your retirement income and estate planning. 
3. Tax Diversification Having a mix of taxable, tax-deferred, and tax-free accounts can be really helpful in retirement. By including a Roth IRA in your retirement portfolio, you can strategically manage your withdrawals to minimize your overall tax bill. For example, in years when your taxable income is higher, you can withdraw from your Roth IRA to avoid jumping into a higher tax bracket. 
4. Estate Planning Benefits Roth IRAs can also be a great tool for estate planning. Since they don’t have RMDs, you can leave the account to your heirs, who can continue to enjoy tax-free growth and withdrawals. This can be a tax-efficient way to pass on wealth to the next generation. 

Managing Tax Brackets with Roth IRAs 

One key strategy in retirement planning is managing your tax brackets to keep your overall tax burden low. Roth IRAs can play a big role in this. Here are a few ways to use Roth IRAs to manage your tax brackets: 

1. Roth Conversions Converting part of your traditional IRA or 401(k) to a Roth IRA can be a smart move, especially in years when your taxable income is lower. You’ll pay taxes on the amount converted, but future withdrawals from the Roth IRA will be tax-free. This can help you manage your tax brackets in retirement by reducing the amount of taxable income you need to withdraw from traditional retirement accounts. 
2. Strategic Withdrawals By carefully planning your withdrawals from different types of accounts, you can manage your taxable income and avoid pushing yourself into a higher tax bracket. For example, you can withdraw just enough from your traditional IRA to stay within a certain tax bracket and supplement your income with tax-free withdrawals from your Roth IRA. 
3. Tax-Efficient Charitable Giving If you plan to make charitable donations in retirement, consider using your traditional IRA for qualified charitable distributions. This can satisfy your RMD requirements while reducing your taxable income. Meanwhile, you can use your Roth IRA for your personal spending needs, ensuring that your withdrawals remain tax-free. 

Another great tool many investors don’t take advantage is Tax-Loss Harvesting.  

What is Tax-Loss Harvesting? 

If some of your investments haven’t done well this year, those underperformers could actually help lower your tax bill when you file next year. Tax-loss harvesting is a strategy where you sell investments that have lost value to offset the capital gains taxes you owe on profitable investments. After selling the losing investment, you can replace it with a similar one, but you need to follow specific rules to make sure the loss counts for tax purposes. 

How does it works 

Tax-loss harvesting helps reduce your taxes by offsetting the gains you need to report. Basically, you sell investments at a loss and use that loss to lower or eliminate the taxes on your gains for the year. 

1. Applicable to Taxable Accounts Only This strategy only works for investments in taxable accounts. Tax-sheltered accounts like 401(k)s, IRAs, and 529 plans aren’t subject to capital gains taxes, so there’s no need to offset gains in these accounts. 
2. More Beneficial for Higher Tax Brackets Tax-loss harvesting is most beneficial for those in higher tax brackets because the savings are more significant. If you’re in a lower tax bracket now but expect to be in a higher one later, you might want to save this strategy for when it will provide greater benefits. 
3. Deadline is December 31 Unlike some other tax-related actions, tax-loss harvesting must be completed by the end of the calendar year. There’s no grace period extending into the next year. 
4. Best for Individual Stocks and Actively Managed Funds This strategy works well with individual stocks, actively managed funds, and exchange-traded funds (ETFs). Index fund investors might find it challenging to use tax-loss harvesting effectively, but those using niche ETFs or mutual funds can benefit. 
5. Understanding Holding Periods The taxes on your gains depend on how long you’ve held the investment. Long-term capital gains (investments held for more than a year) are taxed at lower rates than short-term gains (held for a year or less), which are taxed as ordinary income. 
6. Avoid Selling Just for the Tax Break Don’t sell investments solely for the tax benefit. The goal of investing is long-term growth, and selling too quickly can undermine this. Only sell if there’s a fundamental reason to do so. 
7. Reinvest Thoughtfully Use the proceeds from your sales wisely. Rebalance your portfolio, invest in new opportunities, or add to existing positions with strong potential. 

Capital Loss Deduction 

If your losses exceed your gains, you can deduct up to $3,000 ($1,500 if married filing separately) from your ordinary income. Any excess losses can be carried forward to future years. 

Rules to Follow-Be mindful of the wash sale rule, which disallows the loss if you buy a substantially identical investment within 30 days before or after the sale. Keep accurate records of your transactions to report the correct cost basis to the IRS. By understanding and utilizing tax-loss harvesting, you can make the most of your investments, even those that haven’t performed well, to optimize your tax situation. 

Conclusion 

Roth IRAs offer numerous benefits that can enhance your retirement planning strategy. From tax-free withdrawals and no RMDs to tax diversification and estate planning advantages, Roth IRAs provide flexibility and tax efficiency that can help you achieve your financial goals in retirement. By incorporating Roth IRAs into your retirement plan, you can better manage your tax brackets and ensure a more secure financial future. 

Additionally, understanding and utilizing tax-loss harvesting can help you optimize your tax situation by making the most of your investments, even those that haven’t performed well. By strategically selling underperforming investments to offset gains, you can reduce your tax liability and improve your overall financial health. 

Looking for more ways to maximize your investment strategy or interested in exploring alternative investments that welcome RIA participation?  

Stratus Financial Fund I offers opportunities tailored to forward-thinking investors seeking strong returns in underserved markets.  

DISCLAIMER 

The content provided in this article, including any discussion of Roth IRAs, tax-loss harvesting, and investment strategies, is for informational purposes only and should not be construed as financial, investment, tax, or legal advice. Stratus Financial and its representatives are not tax professionals or legal experts. Any decisions regarding financial planning, retirement accounts, or tax strategies should be made in consultation with a licensed financial advisor, certified tax professional, or attorney who can assess your specific financial situation and provide tailored guidance. The information presented in this article is based on general market knowledge and publicly available data at the time of writing. While we strive to ensure accuracy, we do not guarantee that all information remains current or applicable to individual circumstances. Tax laws and financial regulations are subject to change, and past performance of any financial product does not guarantee future results. 

Before making any investment, retirement, or tax-related decisions, we strongly encourage readers to seek professional advice to ensure compliance with applicable laws and to align financial strategies with their unique objectives. Stratus Financial does not assume any liability for decisions made based on the information provided in this article. 

By reading this content, you acknowledge that Stratus Financial is not responsible for any direct or indirect consequences arising from your reliance on the information herein.

For personalized financial or tax guidance, please consult a licensed professional.