First off, regardless of which type you use, an IRA is often a good choice for retirement saving. While you have more constraints on how you may spend these funds in the future than you would with a regular investment account, an IRA's tax benefits should easily offset this concern if you are in fact using it to save for retirement.
A traditional IRA enables you to contribute money tax-free. Unlike the rest of your paycheck which is taxed, your traditional IRA contributions are made pre-tax, so you typically get money back at tax time for traditional IRA contributions. However, traditional IRA funds will be taxed upon withdrawal in retirement. If you believe you are likely to be in a lower tax bracket when you retire than you are currently - as is fairly common - the traditional IRA is usually the best choice.
Roth IRA taxation works in essentially the opposite direction. Contributions are taxed going in, but not coming out. If you expect to be in a higher tax bracket when you retire than you are currently, you should consider a Roth IRA.
Interestingly, if your tax rate remains fixed over time, it makes no difference whether you choose a Roth or traditional IRA - you'll end up in the same place financially regardless.
Also, bear in mind that depending on your income and tax filing status, your eligibility for IRAs may be limited:
|Roth IRA||Traditional IRA|
any age, with taxable employment compensation
- Income: income must be below a certain threshold to make contributions
under age 70.5, with taxable employment compensation
- Income: No income limits to make contributions
- Age <50: $5,500 per year
- Age 50+: $6,500 per year (capped at level of taxable compensation)
- Tax-free earnings growth
- Tax-free withdrawals
- Tax-deferred earnings growth
- Typically tax-deductible contributions (up to a limit if total earnings are above a certain level)
|Taxation at Withdrawal||
- Contributions are never taxed upon
- Earnings are tax-free (at the federal level) after 5 years and certain other conditions are met
- Withdrawals of pre-tax earnings and any investment income are taxed upon distribution
|Required Minimum distributions (RMDs)||None||Beginning at age 70.5|
Regardless of whether you choose a Traditional or Roth IRA, an IRA can be a helpful element of a well-rounded retirement plan.