Traditional IRA for Beginners
A traditional IRA lets you deduct contributions from your taxable income today and pay taxes later in retirement. It makes sense if you are in a high tax bracket now. Here is how it works.
Don't have time? Here's what you need to know:
- 1Traditional IRA contributions reduce your taxable income today, saving you money at your current tax rate
- 2Withdrawals in retirement are taxed as ordinary income -- you are deferring taxes, not avoiding them
- 3The deduction phases out if you have a workplace retirement plan and earn above certain income thresholds
- 4Required minimum distributions start at age 73, unlike Roth IRAs which have no RMDs
How a Traditional IRA Saves You Money Today
When you contribute to a traditional IRA, you can deduct that amount from your taxable income. If you earn $65,000 and contribute $7,000, your taxable income drops to $58,000. At the 22% federal tax bracket, that saves you $1,540 in taxes this year.
The catch: when you withdraw money in retirement, every dollar is taxed as ordinary income. If you withdraw $40,000/year, that $40,000 gets added to your other income and taxed at your retirement tax rate. You are deferring the tax bill, not eliminating it.
Who Actually Gets the Tax Deduction
If you (and your spouse) do not have a workplace retirement plan like a 401(k), you can deduct your full traditional IRA contribution regardless of income. If you do have a 401(k), the deduction phases out at higher income levels.
For 2024, single filers with a workplace plan lose the deduction between $77,000-$87,000 MAGI. Married filing jointly, it phases out between $123,000-$143,000. If you earn above these limits and have a 401(k), a traditional IRA contribution is not deductible -- and a Roth IRA would be a better choice.
| Scenario | Deductible? | Better Alternative |
|---|---|---|
| No workplace plan, any income | Yes, fully | Traditional IRA is solid |
| Have 401(k), income under $77k (single) | Yes, fully | Compare to Roth based on tax bracket |
| Have 401(k), income $77k-$87k (single) | Partially | Roth IRA likely better |
| Have 401(k), income over $87k (single) | No | Roth IRA or backdoor Roth |
Traditional vs. Roth: The Real Decision
The question comes down to: will your tax rate be higher now or in retirement? If you are currently in the 32% or 35% bracket and expect to be in the 22% bracket in retirement, traditional wins. You save 32 cents per dollar now and pay back only 22 cents later.
If you are in the 12% or 22% bracket now and expect your income to grow significantly, Roth wins. You pay a small tax now and avoid a larger tax later. For most people under 40 who are still growing their careers, Roth tends to be the better bet.
Tip: If you cannot decide between traditional and Roth, split the difference. Contribute to a traditional 401(k) for the upfront deduction and a Roth IRA for tax-free growth. This gives you tax diversification in retirement.
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Required Minimum Distributions After Age 73
Unlike Roth IRAs, traditional IRAs require you to start withdrawing money at age 73 (as of 2024 rules). The IRS calculates a minimum amount you must take out each year based on your balance and life expectancy. Miss an RMD and you pay a 25% penalty on the amount you should have withdrawn.
This means you cannot just let a traditional IRA grow forever. You will be forced to take distributions and pay taxes on them even if you do not need the money. Roth IRAs have no RMDs, which makes them more flexible for estate planning and late-in-life wealth management.
Frequently Asked Questions
Can I convert my traditional IRA to a Roth IRA?
Yes, this is called a Roth conversion. You pay income tax on the converted amount in the year you convert, but then all future growth is tax-free. This makes sense if you have a low-income year (between jobs, sabbatical) or if you expect tax rates to rise in the future.
What happens if I withdraw from a traditional IRA before age 59.5?
You pay income tax on the withdrawal plus a 10% early withdrawal penalty. There are exceptions: first-time home purchase (up to $10,000), qualified education expenses, and certain medical expenses. But in general, early withdrawals are expensive.
Should I put bonds or stocks in my traditional IRA?
Either works, but bonds are a slightly better fit because bond interest is taxed as ordinary income in a taxable account. By holding bonds in your traditional IRA, you shelter that income from annual taxes. Put high-growth stocks in your Roth IRA where growth is permanently tax-free.
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Alex Harrington
CFA Level II Candidate, Finance & Economics
Alex Harrington is an independent ETF researcher and personal finance writer with over 8 years of experience analyzing exchange-traded funds. A CFA Level II candidate with a background in economics, Alex has reviewed 800+ ETFs and helped thousands of beginners build their first investment portfolios through clear, jargon-free education.
This content is for educational purposes only and does not constitute financial advice. Past performance does not guarantee future results. Consult a licensed financial advisor before making investment decisions.