The Roth IRA as Emergency Fund
If you have a Roth IRA, you have an emergency fund, too. See, one of the beauty parts about the Roth IRA is that you can take out the initial investment whenever you want and for any reason. You’ve already paid tax on the initial investment, so you can withdraw it without penalty. So right there you have yourself a ready-made emergency fund.
It’s not a great idea to use your Roth IRA as your primary emergency fund, though. That’s because once you withdraw that money, you can’t put it back (at least not from the original tax year). Also, it goes without saying that that money is no longer earning you anything toward retirement.
I’m not a huge fan of really large emergency funds as it is. So it’s worth keeping in mind this nice feature of the Roth IRA.
emergency fund roth ira
June 8th, 2007 at 10:03 am
I have to admit, I have been shrugging off articles like these for a few months, but something about the quick and dirty way you explained this made me seriously consider it. I still, of course, plan on having a hefty emergency fund - but actually calculating 6 months of expenses and realizing just how much money that is that would be sitting in this account made me think twice.
Not that I wouldn’t be earning good interest on this money, but having just finished paying tuition I suddenly have so many places I want to put my money (Roth IRA, emergency savings, down payment savings, paying off no-interest undergraduate loan to parents) that it’s nice to see I can start putting in money in the IRA sooner rather than later.
June 8th, 2007 at 11:17 am
It would have to be a DIRE emergency. (is there any other kind?)
June 8th, 2007 at 12:33 pm
June 9th, 2007 at 2:49 pm
June 9th, 2007 at 4:28 pm
I don’t think I could ever remove money from my retirement accounts unless it was for some severe medical emergencies.
July 3rd, 2007 at 8:18 am
[…] Since Roth IRAs are taxed differently than traditional IRAs, the rules for a qualified distribution are a little different. Basically, you have to have had the Roth for five years for the distribution to be completely tax-free. Additionally, you can always withdraw your original contribution from a Roth. […]
July 9th, 2007 at 5:56 pm
July 22nd, 2007 at 11:23 am
[…] Advanced Personal Finance » Blog Archive » The Roth IRA as Emergency Fund Welcome and thanks for visiting! If you’re new to Advanced Personal Finance (tags: funds investment money tax) […]
July 26th, 2007 at 8:33 am
[…] Though I don’t recommend raiding your IRA for spending money, a Roth IRA can function as a back-up emergency fund. There are different rules for withdrawing money before retirement from a traditional IRA. 401k […]
September 22nd, 2007 at 12:13 pm
[…] with funding a longer term emergency horizon with both sales of assets, a home equity line, or as Advanced Personal Finances suggest the Roth IRA. Someone in their early 20s usually doesn’t have those options. Having an emergency fund is […]
September 22nd, 2007 at 4:12 pm
September 27th, 2007 at 8:41 am
[…] recommend contributing to a Roth IRA even if your plan offers a Roth 401(k). The reason is because you can always withdraw your contribution to a Roth IRA without penalty before retirement if disaster strikes and you need the […]
November 1st, 2007 at 7:06 am
I have some money in liquidity form for emeregency use, But not much return on it as it is in simple saving account.
March 19th, 2008 at 10:20 pm
1. The real reason one should invest in a Roth Ira is that you pay taxes when you are in a much smaller tax bracket and you withdraw money (tax free) when you have gathered high yielding investments and are receiving a high return on them.
2. The other benefit of a Roth is that it does not force the owner to start withdrawing money at the age of 70 and a half. (Roth is the only account that grants you this freedom).
3. And obviously, withdrawal of contributions are tax free.
At this time, investors must focus on how to maximize the returns on the investments when the REAL inflation is upwards of 5%(irrespective of what Ben Bernanke says). An 8% Nominal return is unlikely to produce a REAL return of more than 2%.
So the investors must must search for high yielding investments to invest their Roths into.
March 30th, 2008 at 10:54 am
What’s the difference between Roth IRA withdrawals and distributions? I thought distributions are only allowed in the following scenarios:
(btw, your Roth IRA must also be atleast 5 years old before you can take any money out of it without getting hit with taxes/penalties?)
Any ‘qualified distributions’ you take from a Roth IRA will NOT be included in your taxable income, hence making you exempt from paying taxes. You won’t have to pay taxes on the original principal you contributed nor any taxes on capital gains & earnings you have accumulated. Pretty sweet you think for Roth IRAs, eh? In order for the distribution to be classified as ‘qualified’, it must be taken under 1 of the following circumstances:
- the Roth IRA investor must be 59 and 1/2 years or older at the time of the distribution
- the Roth IRA investor becomes disabled at the time of taking the distributions
- the Roth IRA investor dies and his/her beneficiary receives the assets contained in the plan
- the distributions taken from the Roth IRA will be used in the purchase or building of a new home for the Roth IRA holder or qualified family member. This is limited to $10,000 per person per lifetime. Qualified family members include:
–> the Roth IRA investor
–> the Roth IRA investor’s spouse
–> children of the Roth IRA investor
–> grandchildren of the Roth IRA investor
–> parent or ancestor of the Roth IRA investor
Source: www.definerothira.com
Note: Even if one of the above prerequisites is met, the Roth IRA must be atleast 5 years old before any distributions can be taken. This is a very important point to consider. For example if you set up your Roth IRA in March 22nd, 2003, you cannot take any distributions, even if they are qualified, until March 22nd, 2008. If you do, this distribution will not be qualified and you will have to pay the 10% early withdrawal penalty as well as income taxes.
May 19th, 2008 at 8:41 pm
June 4th, 2008 at 9:49 am
@Mohammed
It is 5 years before you can take out any earnings from your Roth IRA without paying a penalty. You will pay taxes at that time. You can take out your contributions at any time, without penalty, and of course you have already paid taxes on those.
My take is that if you can afford to fully fund a Roth IRA and an emergency fund, it’s certainly better to have an emergency fund outside the IRA, to avoid the need to tap retirement funds. However, if you’re foregoing your tax-advantaged Roth contribution to fund an emergency fund in a taxable account, I think you’re making a mistake. If it’s either/or, choose the Roth, but invest in a money market fund or short-term bond fund, not in equities.