Which should you be?  At yesterday’s tax planning seminar, one of the most shared question amongst attendees in both morning and afternoon sessions was, “What’s better – a Traditional IRA or a Roth IRA?”

Investing your money in accounts that can grow is always an advantage and I am not going to pick a Traditional IRA over a Roth IRA to say which is “better.” It varies from situation to situation.  Let’s look at a couple of examples.

Example 1:  Your income puts you in a higher tax bracket.  Should the money be placed in a Traditional IRA or directly into a Roth IRA?

Say you make $100,000 a year.  As current tax rates stand, you could be taxed 28%.  If you’re certain your lifestyle doesn’t require any more than maybe $40,000 a year, it would be to your advantage to contribute, tax free, to a Traditional IRA to where you could fall into a lower tax bracket.  Money put into a Roth IRA is taxed according to the amount put in each year.  But once the money is in the Roth, it sits and grows tax free.  Which brings me to conversion from a Traditional account to a Roth.

Example 2:  You are retired and you have X amount already in a Traditional account.  Would it be to my advantage to convert that to a Roth IRA?

While the money that you put into the account went in tax free, anything you take out is taxed according to the yearly amount regardless of whether that amount is to be spent or reinvested into a Roth.   Depending on the size of the Traditional  account, you could land in a higher tax bracket.

Now if you foresee that money being spent down in the next 10 or 15 years and this is your source of income to suit your lifestyle needs, then leave it, take it out yearly and pay the tax as you do so.  There is a caveat to this (as with everything we do when it comes to taxes) which is that taxes are going to go up (and they will go up substantially) so the risk you take is that you may end up paying a lot more for the final five years of that 15 year distribution if you leave it and don’t convert.

On the other hand, if the money is to be left alone for the 10 – 15 year period, or if you won’t ever need it or if you are leaving it to your children, then a Roth Conversion would make much better sense.   For example if you have a large estate to be left to your heirs, it is advantageous to convert.  If you’re in the top income brackets and with the knowledge that in 2011, the tax rates on those brackets are going to go up, that’s another good reason to do a Roth Conversion while the rates are still lower.

This is just basic advice, and doesn’t serve everybody – we are all unique with our goals so your best bet is to speak to a financial planner who will be able to go over your numbers and calculate the best rate of return for you.