When Do You Pay Taxes on a Roth IRA?

So, when do you pay taxes on a Roth IRA? If you have been investing into a Roth IRA account and are wondering why you are not paying taxes on the money I will explain it below.

Most IRAs and 401k plans work like this, you put money into the account, you write it off on your taxes and then when you take money out of your account you then have to pay the taxes.

Roth IRAs work a little differently. The money you deposit into it has already been taxed. When you get your paycheck you may turn around and deposit some of that money into your Roth IRA. But this money was already taxed before they gave it to you.

So if you wondered, is my Roth IRA tax deductable? The answer would be no because in this investment plan you pay your taxes up front.

The benefit is, when you take the money out it no longer has to be taxed. This includes the profits that you made.

But that doesn’t mean it is the Holy Grail investment option. In fact if you look at the traditional IRA and Roth IRA you will find that all things being equal you would wind up with the same amount of money in the end no matter which plan you choose.

What does matter is the taxes. If you believe that your tax rate will increase in the future when you take the money out then a Roth IRA is for you. If you believe that your tax rate will go down in the future after you retire then a traditional IRA would work better.

What is the Tax Penalty for Cashing in a Roth IRA Early?

If you cash out the money that you put into your Roth IRA before you reach the age of 59 ½ you still do not have to pay taxes or penalties on the money.

But if you take out more money then you put into the plan (like the interest you made) then you do have to pay all of the added fees and penalties that come with taking money out early.

Note: These are the facts as I currently understand them when this page was set up. The rules can always change so if you want to know exactly what your position is you can always call the financial institution that holds your IRA for more information on this. They will have more up to date info for you.

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