Individual Retirement Account (IRA)
An IRA allows individuals to save for retirement through salary contributions or by employer matching incentives. The funds may be invested in stocks, bonds, mutual funds, real estate, cash, etc. with certain tax advantages, limits and withdrawal schedules. Roth IRA and Traditional IRAs are both excellent ways to save, however, it is important to measure the advantages and disadvantages of each investment vehicle against your individual financial situation.
- Available to single taxpayers earning up to $95,000 or couples earning a combined $150,000 a year
- Initial contribution and earned interest is tax-free
- Monthly contributions are not tax deductible
- There is no restriction on age of withdrawal and funds may be accessed at anytime without penalty – not an incentive to use retirement savings for gratuitous expenses
- No income restrictions on contributions – available to anyone
- Earned income is tax-deferred until withdrawn
- Contributions or a portion of contributions are tax deductible according to tax bracket
- No withdrawals before the age of 59 ½ or you likely incur a 10% penalty
- All funds must be withdrawn before the age of 70 ½ or rolled into another investment vehicle
IRAs and Taxes
The main difference between Roth IRAs and Traditional IRAs are the tax consequences associated with contributions, interest and earned income from investments. Roth IRAs have the most tax advantages, but that is only if you qualify. And a traditional IRA may give you more tax breaks while you still have time to earn wages. Some financial situations call for a roth conversion which establishes a traditional IRA first, then rolls it over to a more tax-advantaged Roth IRA. Roth IRA tend to make sense for younger Gen-Y individuals who are not at the peak of their earning potential, someone who needs flexible access to funds in an emergency, someone looking to grow your investments past the age of 70 ½ or for those who have recently experienced a drop in their income (lower current tax rate that what you project at retirement age). If you do not have employer sponsorship, do not qualify for a Roth IRA and do not plan on touching the funds until after the age of 59 ½, a traditional IRA may be your choice. Can’t decide? Diversify your retirement portfolio and split your contributions between different IRAs. No matter how you decide to save money for retirement, it is important to understand the effects contributions and withdrawals on your income taxes today and the day you plan to retire – each taxpayer situation is unique. Sit down with your financial institution and trust advisers to determine which IRA makes sense for you to afford a healthy retirement.