Investors who understand the massive tax benefits of Roth IRA are also fans.
A reader recently sent this question to us about it.
I’ve been investing for years in a Roth IRA thanks to your blog. After doing some research, I decided to invest in dividend stocks. I am worried that I might make bad choices since I have never purchased individual stocks. “What happens if I buy individual stocks? Can I lose my Roth IRA?”-Debbie
Thanks for your questions Debbie! Let’s refresh ourselves on the Roth IRA Rules before we answer your questions.
What is a Roth IRA?
Roth IRAs are a form of Individual Retirement Account (IRA), which allows you to deposit money after taxes and withdraw it without taxation at retirement. The account is named for Senator William Roth who sponsored legislation to create it. Although I do not personally know Senator Roth, he deserves an award for the creation of the best savings tool in history!
Can you lose money in a Roth IRA?Can you lose money in a Roth IRA?
The tax treatment of a Roth IRA versus a traditional IRA differs the most. Traditional IRA contributions may be deductible but withdrawals at retirement are taxed like ordinary income. Roth IRA contributions aren’t tax-deductible but retirement withdrawals are.
What are the Benefits of a Roth IRA?
Roth IRAs offer a variety of benefits including:
- Tax-free Growth: Your Roth IRA money grows tax-free over time, resulting in a higher balance.
- Tax-free withdrawals – Withdrawals made from a Roth IRA during retirement are not taxed. This can be a big advantage if your retirement tax bracket is higher.
- Flexibility: You may withdraw your contributions from a Roth IRA (but not earnings) at any time, without penalty.
- Roth IRAs have no required minimum distributions.
Roth IRAs have income and contribution limits. If your income is high, you may not qualify to contribute.
Can you lose money in a Roth IRA?
You can absolutely. The Roth IRA is not an investment. You decide which investments you want to put in the Roth IRA. We’ve established that a Roth IRA can lose money.
1. Market Fluctuations
The value of your Roth IRA may fluctuate depending on the economic climate or changes in the stock markets. Your Roth IRA’s value may fluctuate if you invest in mutual funds, stocks or other securities. You should always remember that investing involves some risk. If your investments do not perform well, you may lose money.
2. Early Withdrawal penalties
You may be required to pay a 10% penalty if you withdraw funds from your Roth IRA prior to reaching age 59 1/2. This is in addition to the taxes owed. There are exceptions to the rule. For example, certain qualified educational expenses or your first home purchase.
3. Roth IRA Contribution Limits
You have a limit on the amount you can contribute each year to a Roth IRA. According to Tax.gov, for 2023 the contribution limit for people under 50 is $6,500 and for people over 50 it’s $7,500. You may be charged a penalty of 6% if you exceed the limits.
4. Roth IRA Conversion Taxes
You may be required to pay tax on the amount that you convert if you want to change a traditional IRA, 401(k), or a Roth IRA. You may have to pay a lot of taxes if you’re in a high-tax bracket. This could lower the value of your Roth IRA.
5. Minimum distributions required (RMDs).
Roth IRAs are different from traditional IRAs in that they do not require minimum distributions during the life of the account holder. If you inherit a Roth IRA account, you might be required to make RMDs. You may be charged a penalty of 50% if you do not withdraw the required amount.
6. ACAT or Transfer Out Fees
If you decide to open a retirement plan with a broker, they will charge you a custodial fee (between $30 and $75). You will be charged a fee for the annual custodial and a fee to transfer out your IRA. Each firm charges a unique amount. Edward Jones, for example, charges $95 when transferring an IRA. You would then have to pay $135 (40 annual account fees + $95 termination fee)
What type of investments can be put into a Roth IRA
Your Roth IRA can be invested in a variety of assets including:
- Stocks You may invest in stocks individually or mutual funds which hold a collection of stocks.
- BondsYou may invest in bonds individually or in bond mutual funds, which hold a portfolio of bonds.
- Exchange traded funds (ETFs). ETFs are investments that trade on stock exchanges like stocks.
- Certificates Of Deposit (CDs): These are low-risk investments which pay a fixed rate of interest over a specified period of time.
- Funds of money market: These funds invest in high-quality, short-term debt instruments such as government bonds and commercial papers.
When deciding on how to invest in your Roth IRA, it’s important to take into account your investment goals as well as your risk tolerance.
How safe is a Roth IRA?
A Roth IRA is a good way to save money for retirement. It provides a tax-free retirement income and you can withdraw your contributions without penalty at any time. Roth IRAs are not without risk, just like any other investment. Your Roth IRA’s value may fluctuate because of changes in the financial market, and you can lose money.
Consider the fees, account minimums and investment options when choosing the brokerage firm for your Roth IRA. Some brokerages charge low fees and have no minimum account, while others charge high fees and have a minimum account. Some brokerages provide a variety of investment choices, while others only offer a few.
It’s best to select a financial advisor who is a fiduciary and ensure that they are covered by SIPC.
When deciding on how to invest in your Roth IRA, it’s important that you diversify your investment portfolio and take into account your tolerance for risk. To determine the right strategy for you, it may be helpful to consult a tax or financial professional.
Roth IRAs: Losing your money is the bottom line
Can you lose money in a Roth IRA?
Roth IRAs are a good way to save money for retirement. However, like any investment there is a chance that you could lose your money. Do your research before investing in a Roth IRA and be aware of the risks.
If you lose money in your Roth IRA investment, you should have a plan in place to use that money.