Rainy Day Roth IRA: Saving for Retirement and the Unexpected

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By Christle Johnson, QKA, CIP


Many low- to moderate-income Americans struggle to come up with the money to cover financial emergencies. Many of your clients likely use their checking or savings accounts for their monthly or recurring expenses, but find that paying for things beyond that to be a challenge. Building an emergency savings fund should be a priority. A Roth IRA could be the “rainy day” fund that they need. Because of its unique characteristics, a Roth IRA not only serves to supplement retirement income, but also is a great resource to draw from for unexpected expenses.

Unexpected Expenses

Many adults are not prepared to withstand even small financial disruptions, such as a car repair or replacing a broken appliance. In its “Report on the Economic Well-Being of U.S. Households in 2018,” the U.S. Federal Reserve found that 39 percent of American adults do not have the funds to pay for a $400 emergency. Specifically, 27 percent said they would borrow or sell something to pay for the expense, and 12 percent said they would not be able to cover the expense at all. The remaining 61 percent that said they could cover the emergency said they would use cash, savings, or a credit card paid off at the next statement.


Out-of-pocket healthcare expenses are a common unexpected expense that can become a substantial hardship for those without emergency savings. The Federal Reserve indicates that 24 percent of adults went without some form of medical care in 2018 due to an inability to pay.

While the reasons for going without medical treatment may vary, these differences suggest that more Americans with modest income forego medical treatments than those with higher incomes.

While the reasons for going without medical treatment may vary, these differences suggest that more Americans with modest income forego medical treatments than those with higher incomes.

The Federal Reserve also reports that 90 percent of those surveyed had health insurance in 2018, either through their employers or labor unions, Medicare, or one of the health insurance exchanges. Of those who were uninsured, 38 percent went without medical treatment because of an inability to pay, compared to 22 percent of those who were insured.

While a health savings account (HSA) may be the best option to cover any necessary out-of-pocket medical expenses, only those who have an HSA-compatible high deductible health plan qualify for an HSA. Thus, a Roth IRA can be a viable option for medical emergencies as well. 


Paying for higher education can be a heavy financial burden for many Americans who are not adequately prepared for the expense. On average, Americans spend $25,000‒$40,000 per student per year on college, according to the College Board Annual Survey of Colleges. Hidden costs or overlooked education expenses, such as textbooks and materials, add-on supplies, activities, and miscellaneous fees often add up. While some may use 529 accounts (tax-deferred savings vehicles with potentially tax-free earnings, under Internal Revenue Code Section 529) to save for college on a child’s behalf, Roth IRA contributions can be withdrawn tax-free to help with these expenses. And if the Roth IRA owner must tap into other assets in the Roth IRA, a distribution to pay for qualified education expenses will not subject the owner to the IRA 10 percent early distribution penalty tax.

“Rainy Day” Roth IRA

Using a Roth IRA as an emergency savings account allows the Roth IRA owner to keep the money separate from the individual’s other bank accounts, while saving for retirement. A Roth IRA “rainy day fund” has unique advantages.

  • Roth IRA owners get more for their dollars through the Roth IRA’s tax-deferred earnings on investments and compounding interest.

  • Roth IRA owners always have access to their Roth IRA assets.

  • Like the deposits into a checking or savings account, Roth IRA contributions are always withdrawn tax and penalty free.

  • Opening a Roth IRA at an early age jump-starts retirement savings.

  • If the Roth IRA assets are not needed for an emergency, the Roth IRA owner is ahead on retirement saving.

Of course Roth IRA owners should avoid dipping into these funds for entertainment and nonessentials. Withdrawing only the minimum amount needed for emergencies is best so that the remaining assets continue to build for retirement. Individuals may even be able to roll over their emergency withdrawal back into the Roth IRA if other money becomes available to reimburse it, but they must meet certain requirements (i.e., 60-day and one-per-12-month rollover restrictions). Consider other key facts as you discuss the option of using the Roth IRA for emergency saving with your clients.

  • Money is contributed to a Roth IRA on an after-tax basis; the individual paid tax on the money before it went into the Roth IRA. Thus, these contributions are not taxed again when they are distributed, regardless of the reason for the withdrawal. In other words, Roth IRA distributions are tax-free and penalty-free until the owner has withdrawn all of the contributions made to his Roth IRAs.

  • Unlike other retirement accounts, the Roth IRA has certain distribution ordering rules. The first money distributed from the Roth IRA comes out of the contribution assets. If accessing more than the contributions—any conversion or retirement plan rollover assets and earnings—the remaining funds could be subject to federal income tax and the early distribution penalty tax when distributed.

  • If the Roth IRA owner has a qualified distribution, all of the assets—contribution, conversion, plan rollover, and earnings assets—are distributed tax and penalty free. The owner has a qualified distribution if he’s had a Roth IRA for five years or more, and is either age 59½, a beneficiary of the Roth IRA, or he meets certain qualifications for disability or for first-time homebuyer expenses.

  • A nonqualified distribution of noncontribution assets may be subject to tax, but the early distribution penalty tax (if under age 59½) won’t apply if the withdrawal is for qualified education expenses, healthcare expenses that exceed 10 percent of adjusted gross income, or certain other exceptions.

Your clients may want to review the Roth IRA tax rules with a competent tax advisor. IRS Publication 590-B, Distributions from Individual Retirement Arrangements (IRAs), is another good source of information.