Savings Account vs. Roth IRA: Differences, Pros & Cons

Whether you’re trying to save cash for a down payment on a house, to make sure you have enough money to retire comfortably, or to cover any other financial need or goal in between, it can be difficult to figure out where you should put your money, as there are multiple options that may best fit your needs.

Roth IRAs and savings accounts are two of those options for depositing your extra cash, but they have different purposes, limitations, and requirements you should be aware of. Keep reading to learn about the similarities, differences, advantages, and disadvantages of these two important financial products.

Roth IRAs and savings accounts both offer a secure way to save money for short-term goals, such as a vacation, as well as long-term goals, such as retirement planning. That said, there are a few key differences between a savings account and a Roth IRA that are worth knowing before you choose one over the other. James Allen — a CPA, CFP, and CFEI and founder of Billpin.com — explains it best:

“The similarity lies in their purpose — to provide a safe place for your money. However, the differences are stark. A savings account is like a small garden in your backyard: it’s easy to access, and you can add or remove plants (money) anytime, but the growth (interest) is minimal. On the other hand, a Roth IRA is like a vast farm: it’s not as easily accessible, and there are rules about when and how much you can harvest (withdraw), but the potential for growth (returns on investments) is significantly higher.”

Savings accounts are straightforward financial tools that everyone should have. They are designed to store your cash deposits and provide liquidity, meaning you can access the money quickly and easily. They also come with higher interest rates than checking accounts, so your money will grow faster. Savings accounts are offered by traditional banks and credit unions, as well as by online banks.

One of the most common uses for a savings account is to hold an emergency fund. Most financial advisors recommend having at least three to six months’ worth of living expenses in your emergency savings — a number that will depend on the size of your household, your income, and your monthly bills.

A savings account is also a great way to save for short-term financial goals. A few examples include setting aside funds for a down payment on a car or a house, tucking away money for your next vacation, or saving up to pay for a wedding. You may also want a safe place to temporarily store your money before putting it toward investments, such as mutual funds. Some people may even benefit from having multiple accounts to keep their savings goals separate.

A savings account is one of the safest places to keep your money, which is particularly comforting during times when the economy is volatile. Your money is never in danger in a savings account because it’s insured up to $250,000 by the Federal Deposit Insurance Corporation (FDIC) if it’s kept in a bank or the National Credit Union Administration (NCUA) if it’s kept in a credit union.

It’s important to remember that while your money does earn interest in a savings account, you’re not going to get rich from that interest alone. The national average interest rate on savings accounts is less than 1% — although you can find much better rates on high-yield savings accounts, which can go as high as 5%. Keep in mind, however, that these accounts may have minimum deposit and balance requirements, and the funds may not be as readily accessible.

You should also be aware that interest from a savings account is considered taxable income by the Internal Revenue Service (IRS), so you will have to pay taxes on whatever interest you do earn.

A Roth IRA is a specific type of individual retirement account (IRA). Unlike traditional IRAs or 401(k)s, Roth IRAs are funded with after-tax dollars. This means that even though you don’t get the upfront tax advantages that you would with other retirement accounts, you won’t have to pay tax on your withdrawals.

In addition, because you contribute after-tax dollars to a Roth IRA, you are allowed to withdraw your Roth IRA contributions at any time, tax-free and without penalty. However, you will be taxed on any earnings you make if the IRA isn’t at least five years old and you’re not 59 1/2 or older, with a few exceptions.

One of the best features of Roth IRAs is that you have a variety of investment options to choose from to grow your nest egg. Most financial institutions limit your investment to specific choices of products and securities, such as stocks, bonds, mutual funds, exchange-traded funds (ETFs), and CDs. This should be fine for most people, but if you’re interested in alternative investments, such as cryptocurrencies or real estate, self-directed retirement accounts offer these options as well.

On the downside, a Roth individual retirement account has annual contribution limits, so you can’t simply deposit as much money in your account as you want. As of 2023, the contribution limit for IRAs is $6,500 per year, or $7,500 if you’re 50 or older. By comparison, there is no limit to how much money you can deposit in your savings accounts.

Also be aware that annual contribution limits include all of your IRAs. For example, if you have two retirement accounts — a Roth IRA and a traditional IRA — you can only contribute $6,500 total (or $7,500 if you’re over 50) between both of them. How much you can contribute to your Roth IRA is also subject to income limits.

In truth, neither a savings account nor a Roth IRA can be considered “better” than the other. Despite their similarities, they each have a distinct purpose, which means they both have a place in your financial stability and future. That said, depending on what stage you’re at in your life, one may make more sense than the other.

“When opening a savings account or a Roth IRA, consider your financial goals, time horizon, and risk tolerance,” says Allen. “It’s like deciding between renting a house or buying one. Renting (savings account) is straightforward but offers limited benefits. Buying a house (Roth IRA) requires more commitment and understanding, but the potential benefits are substantial.”

If you can manage it (and you’re within the income limits of an IRA), it’s a great idea to have both types of accounts. Allen compares this choice to deciding whether to buy a bicycle or a car — it’s actually great to have both.

Not sure which account to open first? While having both accounts is a solid goal, you should definitely start with a savings account to at least build up your emergency fund. This is especially true if you’re younger and don’t have a lot of extra cash to start saving for retirement yet.

While technically you could store your savings in a Roth IRA, financial experts don’t recommend it based on the primary purposes of each financial product. For example, it can take more time to withdraw money from a Roth IRA and transfer it to your checking account in case of an emergency.

“Using a Roth IRA as a savings account is like using a race car for daily commuting. Yes, it’s possible, but it’s not using the tool for its intended purpose. Roth IRAs are designed for long-term growth and retirement savings, not for frequent transactions or short-term savings,” Allen explains.

Prior to the start of the pandemic in 2020, the Federal Reserve Board imposed a limit of six withdrawals per statement cycle from savings and money market accounts. As of April 2020, however, those restrictions have been lifted to give people easier access to their much-needed bank account funds. Having said that, some banks still impose withdrawal limits, which could incur a small fee if you surpass them.