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I'm new to investing, using M1 Finance, and have been doing some overall research.

From what I know, Roth IRA is tax-free income and mostly used as a retirement plan so if I invest in a Roth IRA account, all the dividends income are not taxed (correct me if I'm wrong). In contrast, with a regular taxable account I will have to pay tax on dividends earned as well as trading earned.

Questions are:

  • Wouldn't a Roth IRA be more beneficial since I won't get taxed on the income?
  • Why would anyone prefer one over the other?
  • Is it a good idea to have a taxable account AND a Roth IRA account at the same time?

Many thanks!

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The three key differences between a Roth IRA and taxable investment account are:

  • Tax on gains
  • Access to gains
  • Eligibility to contribute

With a Roth IRA, you don't pay any income or capital gains tax on the earnings in the account, but you can't touch the gains until you are at least 59 1/2 years old (if you do, you will pay taxes, in addition to a penalty). Contributions are also limited, and only allowed if you have earned income. If you have too much earned income, however, the limit will be lower (or even 0, meaning contributions not allowed at all).

With a taxable investment account, you can contribute any amount you'd like at any time and withdraw any amount at any time. Capital gains, interest, and dividends are subject to tax, but careful planning can reduce this tax burden.

It's a good idea to have both because while the tax-free nature of Roth gains is something you want to take advantage of, there is a limit to what you can put in there, and a (temporary - until retirement) limit to what you can take out, so if you plan to save/invest more than the limit and think you might ever want access to your investment gains while you're younger, you'll want a standard taxable account as well.

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    I think it is worthwhile to note that while gains in a Roth IRA is tax free (assuming you follow the rules), you paid taxes on it when you earned the money. In every choice in this space, the IRS gets their share, it is just a matter of when: Roth IRA: taxes paid on the money when earned, tax-free when withdrawn Traditional IRS: deposits may be deducted from that year's income, but will be taxed when withdrawn. Regular taxable account: taxes paid on the money when earned AND taxes paid on any gains when triggered. As above, I think a mix is a good idea, but there aint a tax-free lunch here. – R. Hamilton Jan 9 at 15:57
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    It's worth mentioning that there are cases that you can withdraw from a Roth IRA, like for a first-time home buy, without penalty. – 8protons Jan 9 at 17:25
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    @R.Hamilton Don't forget the tax-free growth of the Roth IRA. If your investment doubles every 7 years and you have 28 years until retirement, your $1 investment today has already been taxed, true. But in 28 years it has grown to $16, of which $15 has never been taxed and will not be taxed when you withdraw it. So the IRS gets very little if you start young and invest for the long term. – MTA Jan 9 at 19:49
  • @8protons: You mean for earnings only. You can always withdraw contributions to a Roth IRA at any time without tax or penalty. – user102008 Jan 9 at 20:16
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    @8protons I'm not sure which of user102008's statements you want a source for. So here are both. Withdrawing contributions: schwab.com/ira/roth-ira/withdrawal-rules Backdoor Roth contributions: nerdwallet.com/blog/investing/… – Doug Deden Jan 9 at 22:32
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In addition to what yoozer8 wrote, you can't "put back" contributions (not gains, but contributions) that you withdrew.

For example, if you contribute $6000 to a Roth every year, and need to withdraw $10000 for some purpose or another, the money is gone (from your IRA; you still have the $10000, but can't later1 reinvest it back in the Roth). Whereas if you invest $6000 to a taxable account every year, and need to withdraw $10000 for some purpose or another, you can invest another $10000 whenever you please, in addition to the regular $6000.

1 Ignoring the 60-day IRA pseudo-loan.

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    Sure, but you can always put that $10k roth withdrawal back into a taxable account, just the same. No reason to skip out on roth contributions because you might want to make an early withdrawl. – Matt Jan 9 at 17:43
  • @Matt it's not back in the Roth account, and I don't think I implied not to contribute to a Roth account. – RonJohn Jan 9 at 18:48
  • Perhaps you didn't mean to imply it, but what you wrote reads as if that is what you mean. You may reconsider rewording to avoid this. Consider: "... the money is gone" (from a Roth IRA) vs "you can invest another $10000 whenever you please" (from a taxable account). While this is true, but you can always invest another $10000 in a taxable account, regardless of if it was previously withdrawn from a Roth IRA or from a taxable account. It comes across as if you are implying you can't do this if you had withdrawn from a Roth IRA, which further implies a reason to avoid a Roth IRA. – Matt Jan 9 at 18:53
  • @Matt point taken. – RonJohn Jan 9 at 19:02

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