This is a guest post from fellow blogger Patty Moore. Patty started blogging when she got the idea for Working Mother Life, her personal finance blog. Check it out to learn more about her journey as a single mom.
Robo-advisors are online investment advisors that allow users to manage their money via computer algorithm. A robo-advisor will select an investment, such an exchange traded fund, make the investment, rebalance a user’s portfolio automatically, and as search for tax-loss harvesting opportunities as necessary. In short, a robo-advisor provides less customized advice than a traditional financial advisor, but is provides greater returns than the average do-it yourself investor could achieve, and for far fewer fees than a traditional advisor would charge.
What is a Roth IRA?
A Roth IRA is a type of individual retirement account where the account owner manages all investment decisions, typically by choosing a type of investment strategy. The funds in an IRA are held by a qualified trustee or custodian, which is often a bank of investment firm. There are two primary types of IRAs, traditional and Roth, with the main distinction being how they are treated for tax purposes.
For Roth IRAs, contributions are not tax-deductible. Withdrawals are not taxed, however, as long as they are made once the account owner has reached retirement age. If a person withdraws funds from their Roth IRA prior to this time, they may be subject to taxes and penalties. Roth IRAs are a better choice for individuals who want to pay taxes up-front on their income, rather than paying taxes during retirement.
What is a Robo-Advisor?
A robo-advisor would help you manage your future by creating a customized portfolio of investments based on your retirement goals and tolerance for risk. According to a September 2017 report, however, 62 percent of consumers haven’t even heard about robo-advisors.
Robo-advisors use proprietary algorithms that will diversify your portfolio, search for investments with the lowest fees, and rebalance your portfolio regularly. Many robo-advisors also use strategies to minimize the amount of capital gains taxes that you will owe, or to ensure that if capital gains taxes are owed, that they will be the lower rate capital gains taxes.
If desired, you can “set it and forget it” — simply answer the questions posed by your robo-advisor, and then allow the robo-advisor to make the investments for you. Most financial experts recommend that you regularly check in with your robo-advisor to ensure that your money is safe and that your investments are performing well, however. On average, robo-advisors tend to have higher returns than most investors receive when they manage their investments on their own without the assistance of a financial adviser or other professional.
What If You Don’t Like Robo-Advisors?
However, there are options for managing your Roth IRA outside of using a robo-advisor. Many investors choose to simply invest the money themselves as do-it-yourself investors. Still many others choose to use financial advisors to manage their Roth IRAs. There are advantages and disadvantages to each option, based on the specific situation of the investor.
Do-it-yourself investing can certainly help to avoid fees and maximize an investor’s control over his or her Roth IRA investment strategy. For investors who want to maintain control over their retirement funds, choosing their own investments may be a good decision. However, most individuals are not financial or tax experts. This can make managing your own investments a poor choice for many individual investors, as they may not be able to manage their portfolios in such a way that will maximize their gains and minimize their taxes in the same way that a robo-advisor would be able to do. In most studies, robo-advisors were able to achieve higher returns than individual (non-expert) investors.
Working with a financial advisor can help an investor increase his or her return on his Roth IRA investments. A financial advisor can provide customized advice about a broad range of subjects, and answer questions about a diverse array of topics related to an investor’s finances, unlike a robo-advisor. However, a financial adviser often charges high fees and may require a minimum investment amount, which can be a barrier for many investors.
Robo-advisors charge relatively low fees and offer higher returns than most people would be able to achieve on their own. It is a way to “invest and forget” for many owners of Roth IRA accounts, as the computer algorithm can take care of the most complex parts of investing. However, robo-advisors do not allow for a high degree of control, and cannot provide financial advice or answer questions. They also won’t allow investors to beat the market, as the returns will be relatively modest overall.