Popular with millennials, Roth IRAs have become the token choice for the under-34 crowd's retirement income. But recent data shows baby boomers might be missing out by sticking with traditional IRAs.
Investors under 34 years old have more than eight times more money in Roth IRAs than traditional IRAs, according to a recent T. Rowe Price study. Investors between 18 and 24 have more than 16 times more money in Roth IRAs. A greater preference for traditional IRAs emerged when the study looked at investors over age 50.
"The benefits of tomorrow's tax-free retirement withdrawals with a Roth IRA far outweigh the benefits of today's tax-deduction and other possible benefits with a Traditional IRA," said T. Rowe Price senior financial planner Stuart Ritter. "Even though the Roth IRA contribution doesn't qualify for an income tax deduction, decades of compounding tax-free money can generate more spendable income in retirement."
The study showed that young investors weren't the only ones able to benefit.
"It's great that so many young investors are selecting the Roth IRA," Ritter said. "While the benefits of Roth IRAs are more pronounced for millennials, our research shows the majority of investors would still be better off using a Roth IRA than a traditional IRA."
The Roth IRA produced more spendable retirement income in most of the scenarios analyzed. Based on data as of year-end 2013, the study examined how much more spendable income in retirement an investor who used a Roth IRA would have compared with an investor who used a traditional IRA.
Based on the study, a $1,000 Roth IRA contribution by a 25-year-old would yield 18% more retirement income than the same amount saved in a traditional IRA if the investors stayed in the same tax bracket.
(The calculations assumed the investor retired at 65, started in the 25% tax bracket and invested the $250 tax deduction from the traditional IRA contribution in a separate, taxable account. They assumed a 7% return for the retirement accounts).
