Roth IRAs and the 5-Year Rule

If you want to learn more about Roth IRAs before stepping into this nuanced topic, check out this post first: Traditional and Roth IRAs

What is the 5-year rule for a Roth IRA?

The 5-year rule for Roth IRAs states that a Roth IRA must be open for at least five years before you can take tax-free distributions of earnings. This rule applies when you're withdrawing earnings from the account before reaching age 59½.

You can access the principal (contributions) you've made to your Roth IRA at any time without penalty or tax. Since Roth IRA contributions are made with after-tax money, you've already paid taxes on them. As a result, you're allowed to withdraw those contributions at any point without facing additional taxes or the 10% early withdrawal penalty.

Exceptions to early withdrawals from both Traditional and Roth IRAs may include things like higher education expenses, first-time homebuyer expenses, certain medical expenses, and some cases of disability or death.

Does the 5-year clock reset ever?

Yes, the 5-year rule for Roth IRAs resets when you open a new account. Each Roth IRA account you open has its own 5-year clock for determining whether distributions of earnings are qualified (tax-free) or not. This means that if you open a new Roth IRA, the clock starts from scratch for that specific account. The 5-year clock begins on the first day of the tax year for which you make your first contribution to the new Roth IRA. Keep in mind that the 5-year clock only applies to earnings, not to the contributions you've made, which can be withdrawn at any time without tax or penalty.

Take a look at this content around determining if a distribution from your Roth IRA will be taxable.

Important to note as well, if you have a Roth 401(k) and plan to roll assets over to a Roth IRA, you will be reseting the 5-year clock unless you rollover the assets into an existing Roth IRA, in which case it would depend on how long that account was open.

What should you do?

Be proactive and consider opening a Roth IRA long before you might need to take withdrawals from it.

Always consider your long-term financial goals before withdrawing funds from any retirement account, as early withdrawals can impact your retirement savings and future financial security.