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savings account vs roth ira

When creating a plan for saving, one of the most important things to decide is where to keep your money. Savings accounts are one option; a Roth individual retirement account is another. Whether it makes sense to open a savings account vs. Roth IRA (or one of each) can depend on your financial needs and goals.

For help figuring out how you are going to save, consider working with a financial advisor.

Savings Account Basics

A savings account is a deposit account that’s designed to hold the money you don’t need to spend right away. Savings accounts are a type of demand deposit account, meaning you have the ability to withdraw money from them without being required to give the bank prior notice. Banks can, however, limit the number of withdrawals you can make from a savings account each month and impose a fee for exceeding that limit.

You can find savings accounts offered at traditional banks, online banks, and credit unions. Here are some of the key characteristics of a savings account:

  • Balances can earn interest
  • Rates are usually variable
  • Monthly fees may apply
  • Withdrawals allowed, up to certain limits
  • Can be linked to a checking account

Savings accounts may come with an ATM card that allows you to withdraw cash, though not all banks offer that feature. Online banks tend to offer higher rates to savers while charging fewer fees, compared to traditional banks or credit unions.

What Is a Savings Account Good For?

savings account vs roth ira

Savings accounts offer convenience and flexibility since you can deposit money to earn interest and withdraw it as needed. You can use a savings account to save for short-, mid- or long-term financial goals.

For example, you might use a savings account to set aside money for:

  • Emergencies
  • Vacation plans
  • New furniture
  • Car down payment
  • Home down payment
  • Wedding expenses

Is a savings account good for retirement saving?

Not necessarily. While you could use a savings account to hold money for retirement, there are some drawbacks. For one thing, you don’t get the same tax breaks that retirement accounts offer. And for another, your money doesn’t have as much room to grow.

Roth IRA Basics

A Roth IRA is an individual retirement account that allows you to set aside money while enjoying tax advantages. You must have earned income to open and contribute to a Roth IRA. For 2022, the annual Roth IRA contribution limit is $6,000, or $7,000 if you’re age 50 or older.

The IRS limits who can make a full contribution to a Roth IRA, based on income and filing status. You can make a full contribution for 2022 if you:

  • Are single or head of household and have a modified adjusted gross income (MAGI) of less than $129,000
  • Are married, file separately, have a modified adjusted gross income of less than $129,000 and did not live with your spouse during the year
  • Are married, file jointly and have a modified adjusted gross income of less than $204,000
  • Are a qualifying widow(er) and have a modified adjusted gross income of less than $204,000

If you’re married and file separately but lived with your spouse during the year you can only make a partial contribution if your MAGI is $10,000 or less.

Roth IRA contributions are not tax-deductible. You can, however, make qualified withdrawals tax-free in retirement. You can also withdraw original contributions tax- and penalty-free at any time.

What Is a Roth IRA Good For?

Roth IRAs are designed specifically for retirement savings. The money you save in a Roth IRA can be invested in the market and grow through compounding interest. When you reach 59 ½, you can generally start taking withdrawals tax and penalty-free.

A Roth IRA is not intended to be used as an emergency fund or to fund large expenses, though there are some instances where you can make early withdrawals. For example, the IRS allows you to withdraw money penalty-free from a Roth IRA to buy a home or pay for qualified higher education expenses.

Savings Account vs. Roth IRA: What’s the Difference?

A savings account is designed for saving money, not investing it. The money in a savings account is not invested in the market. Instead, it’s held in your account and earns interest. Banks can compound interest daily for savings accounts, then credit it to your account monthly.

You might pay a monthly maintenance fee or excess withdrawal fee for a savings account. As long as your bank is an FDIC member, your deposits are covered up to the allowed limit in the rare event of a bank failure. The FDIC insures bank accounts up to $250,000 per depositor, per account ownership type, per financial institution. The National Credit Union Administration offers similar coverage for savings accounts at member credit unions.

Roth IRAs are meant to be used for retirement savings. Money can be invested in mutual funds, exchange-traded funds (ETFs) and other securities. Your money grows as the value of those investments increases, less the fees you pay to own them. When gauging growth, Roth IRA investors typically use the annual rate of return as a guide.

The FDIC can insure Roth IRAs opened at member banks. The same deposit insurance coverage limits apply. That does not mean, however, that you can’t lose money with a Roth IRA. If your investments drop in value, that can cause the value of your Roth IRA to shrink as well.

Savings Account vs. Roth IRA: Which Is Better?

savings account vs roth ira

Savings accounts are generally best for holding money that you’ll need to spend at some future date. You can use a savings account to set aside money for large or small financial goals, earn interest, then withdraw the money when you need it. A savings account is also better for holding your emergency fund since they’re highly liquid. You can transfer money in or out of savings to a linked checking account. There’s no tax penalty since savings accounts are not tax-advantaged.

Roth IRAs, on the other hand, are better suited for retirement savings. You can potentially see much bigger returns from money invested monthly in a Roth IRA and you can withdraw those earnings tax-free when you retire. You might consider a Roth IRA if you don’t necessarily need an extra tax deduction during your working years and you expect to be in a higher tax bracket at retirement.

You can have both a savings account and a Roth IRA and in fact, that’s a good idea for many people. Keeping some of your money in savings means you can tap into it if you need cash. And having some of your money in a Roth IRA means that it’s growing and working for you until you’re ready to retire.

The Bottom Line

Savings accounts and Roth IRAs can help you to achieve very different things with your money. Rather than debating whether to open a savings account vs. Roth IRA, you might choose both. When comparing either option, consider your goals. Before opening a savings account, it’s a good idea to check the interest rate you could earn and the fees you might pay. With a Roth IRA, you can review the range of investments offered and their associated fees.

Savings Tips

  • Consider talking to your financial advisor about how savings accounts and Roth IRAs might fit into your financial plan. Finding a qualified financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with up to three financial advisors who serve your area, and you can interview your advisor matches at no cost to decide which one is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
  • A checking account is designed to hold the money you will spend in the near future. You can use a checking account to pay bills or cover day-to-day expenses. If you need a new checking account, consider the options offered by traditional banks and online banks. While online banks generally don’t have branches, they can charge less in fees than regular banks.

Photo credit: ©iStock.com/shapecharge, ©iStock.com/Luke Chan, ©iStock.com/monkeybusinessimages

Rebecca Lake Rebecca Lake is a retirement, investing and estate planning expert who has been writing about personal finance for a decade. Her expertise in the finance niche also extends to home buying, credit cards, banking and small business. She's worked directly with several major financial and insurance brands, including Citibank, Discover and AIG and her writing has appeared online at U.S. News and World Report, CreditCards.com and Investopedia. Rebecca is a graduate of the University of South Carolina and she also attended Charleston Southern University as a graduate student. Originally from central Virginia, she now lives on the North Carolina coast along with her two children.
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