Do Roth IRA Returns Really Favor the Wealthy?

Categories : Financial, News
February 2, 2022

Academia will study most anything, so long as they are hopeful of proving a hypothesis. One particularly dubious study concerning investment returns in Roth IRAs attempted to show that results are somehow influenced by the annual incomes of the account holders.

Finding #1 – Lower-income investors experienced lower investment returns than did their higher-income counterparts. Finding #2 - The performance gap was less in Traditional IRAs than in Roth IRAs. Finding #3 - Results are disturbing to the authors because the Roth IRA was designed to help the Middle Class.

So, who are these “lower-income” folks receiving supposedly discriminatory lower returns? For this study, annual incomes under $200,000 failed to reach the “wealthy” category. That’s a high bar to set for the annual income breakpoint.

Given these premises, let’s explore their findings. From 2004 to 2018, Roth IRAs owned by “the wealthy” returned 8.55%, while the lower-income folks realized only 3.6%. This supposedly increased American “wealth inequality,” which is, according to the authors, a grievous and “unfair” condition in our society.

How dismayed were the academic researchers? They concluded that performance disparity is so severe as to warrant government policy changes. Did they clarify what legislation could help? I failed to find even one suggestion.

Risk acceptance or avoidance is dependent on the circumstances of the investor. Novice investors with low levels of financial literacy tiptoe into the process and theory of market investing using lower-risk investments. Risk acceptance generally begins to expand with experience, knowledge, and increasing wealth. Because risk and return are strongly correlated, returns logically increase over time.

To us, this “research paper” constitutes a conclusion looking for a story.

It is never a good idea to “86” a critical analysis without answering the simple question, “What would we do better?” First, we would encourage economics, personal finance, and investing basics in the school curriculum. We could free up plenty of time in schools by eliminating Critical Race Theory. Second, we would lift (or remove) limits on IRA contributions, so that interested young workers could save more, learn faster, and accelerate their journeys to Financial Independence.

Sadly, too many American households are negligent regarding saving and investing, having been educated in school systems that value self-esteem over self-reliance and financial literacy. Want everyone to get higher returns? Improve overall financial literacy. And certainly, don’t despair if you are earning less than $200,000 per year. You, too, can achieve excellent returns in your Roth IRA.

April is Financial Literacy Month. Can we expand it year-round?

Van Wie Financial is fee-only. For a reason.