Redditors Jump in When a Dividend Investor Questions the Need for a Roth IRA: 'That $50K–$70K is all yours, tax-free'

A Redditor recently cast doubt on one of the most popular retirement vehicles: the Roth IRA. The Redditor posted in the Dividends subreddit about investing aggressively in the Schwab US Dividend ETF SCHD and not needing a Roth IRA. The Redditor shared some calculations that show he can earn $50,000 to $70,000 each year from SCHD in 20 years. Based on that logic, the Redditor was wondering if a Roth IRA makes any sense.

The comments section quickly explained why Roth IRAs are valuable and how they can help the Redditor maximize their returns.

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Roth IRAs Result in Zero Taxes on Dividends and Gains

The main reason people invest in Roth IRAs is to avoid taxes on dividends and capital gains. While that's advantageous for any investor, it's especially beneficial for dividend investors. That's because SCHD's dividend distributions are normally taxable. While you won't have to pay at the ordinary income tax rate, you still end up with taxes on SCHD that will limit your portfolio's growth.

SCHD currently has a 30-day SEC yield of 3.71%. Buying shares in a Roth IRA allows you to avoid any taxes on that yield. Furthermore, the capital gains are also tax-free if you decide to sell SCHD in the future. 

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The Redditor Used an Inaccurate Model

The Redditor makes several assumptions to assume their SCHD position will generate $50,000 to $70,000 per year in 20 years. One of those assumptions is a generous dividend growth rate which some of the commenters question.

One of the commenters mentioned that the yield is unlikely to increase as the model shows. The commenter anticipates that SCHD's yield will hover between 3% and 4%. The Redditor assumes the yield will jump from 3.77% to 6.75% over the next 20 years. It's a very generous assumption since the average company isn't going to give out a 6.75% yield. 

A Roth IRA can make it easier to reach that goal. However, the Redditor will have to invest a lot more into SCHD than their model suggests if they want to earn up to $70,000 per year from dividends.

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When Do You Plan on Retiring?

While most Redditors pointed to the benefits of a Roth IRA, there was a small corner of the comments section that agreed with the original poster. If the Redditor can retire before turning 50, then it wouldn't make as much sense to use a Roth IRA. 

Those funds won't be accessible until the Redditor turns 59 1/2 years old. If you invest in a brokerage account instead, you can access all of the dividends right away. 

This is the best argument against Roth IRAs since some people may want to retire earlier. However, you can also combine Roth IRA contributions with brokerage account contributions. You can have both and use the dividends from your brokerage account to cover your expenses until you can withdraw from the Roth IRA penalty-free.

However, this scenario only matters for people who have a shot at retiring before they turn 59 ½ years old. Someone who retires in their 60s would have benefitted from using a Roth IRA for some of their SCHD investments. 

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