An IRA is an individual retirement account that enables employed individuals to make regular savings towards their retirement so that they can continue to maintain the same lifestyle and meet medical expenses even after they’re not earning a regular and steady income.
Contributions to an IRA are invested in assets such as stocks, commodities, exchange-traded funds, bonds, real estate, and cryptocurrency. The account holder gets to enjoy tax benefits on their investment gains.
If you’re looking to create a retirement savings fund or simply want to learn more about such a savings plan, here are some questions and answers that will help you gain a deeper understanding of individual retirement accounts.
What is the benefit of having a retirement account?
Aside from helping you build a life of self-sufficiency in your golden years, the funds in your IRA account help you save taxes and make long-term investment gains.
The article “Why Do I Need an IRA?” from Mink Wealth explains that your income will be lower in retirement than it was before. An IRA will help you to spend more frugally during retirement. In addition, having an IRA is particularly important when you don’t have an employer’s retirement plan (provident fund) as a backup for your post-retirement years.
I just started working full-time. Can I open an IRA?
Yes, anyone can open an individual retirement account if they are employed. Even an adolescent with a job can open an IRA based on their state’s minimum working age limit.
By starting early, you can enjoy stupendous returns from the compound interest earned over the years. You can open either a traditional or a Roth IRA (discussed later in this article).
How much can I contribute to my IRA account every year?
For 2019, the maximum contribution limit has been set at USD 6,000 (if you’re younger than 50 years), which means a monthly contribution of only $500. Individuals over 50 years can contribute a maximum of $7,000 a year. The contribution limit is the same for both the traditional IRA and the Roth IRA. This limit may or may not change in the coming years.
What is the difference between traditional and Roth individual retirement accounts?
While traditional retirement accounts have been around for over four decades, the Roth IRA was established in 1997. Both allow employed individuals to save for their retirement years, and both have the same contribution limit for 2019.
One major difference between the two is that traditional IRA contributions are tax-deductible in the contribution year and withdrawals from the account are taxable. Thus, contributions made to traditional IRAs can help lower your total annual taxable income.
While contributions to Roth accounts do not enjoy a tax break, earnings and withdrawals during retirement are tax-free.
Another important difference is that Roth IRAs have an income limitation while traditional IRAs have no such limit. This means that to contribute to a Roth IRA, your total annual income should be less than the specified upper limit in a given year.
Lastly, if you have a Roth IRA, you can withdraw up to USD $10,000 of your earnings penalty-free after five years towards first-time home buying. With a traditional IRA, you can make a similar withdrawal as a first-time home buyer, but the distribution is taxed. Some types of higher education and hardship withdrawals are also allowed on both types of accounts.
What is the difference between an IRA and a 401(K) account?
The main difference between the two is that a 401(K) is a retirement savings account offered by your employer and your contributions to the account are fully or partially matched by the employer.
The annual contribution limit to 401(K) accounts for 2019 is USD 19,000 (for persons below 50 years) and USD 25,000 (for seniors 50 and over).
What can I start withdrawing funds from my IRA?
For traditional IRAs, the age limit is 70.5 years, and the account holder must begin making minimum withdrawals when they reach this age. The withdrawals will need to be recorded on Form 1099-R.
For Roth IRAs, the age when you can start withdrawing funds is 59.5 years, but it is not mandatory to do so. Withdrawals from Roth accounts are also recorded on IRS Form 1099-R.
What factors should I consider when choosing an IRA?
Most banks and other financial institutions offer safe investments like IRAs, giving you plenty of options. The rate of return on investment is the most important factor to consider when choosing a retirement account. Speaking with an experienced financial adviser will help you select the right IRA based on your age, income, likely retirement age, preferred investment options, and risk-taking capacity.
You can choose between an online or offline IRA provider, but before you make your pick, ensure the following.
- Find out the initial contribution required to open an IRA, which may differ from provider to provider.
- Check if the provider has set any minimum yearly contribution limit and the penalty for not meeting that limit during a given year.
- Find out more about the assets portfolio offered by the provider.
- Learn about all and any fees and charges the provider will bill, such as trading fees and annual charges.
- Check if you’ll be provided a dedicated account manager.
- Check if the provider offers mobile banking so that you’ll have easy access to your account and your trades.
What type of investments should I choose?
Aside from the rate of return, age is an important criterion when selecting IRA investment options. For example, if you’re younger, you can afford to invest in high-risk assets, but if you’re nearing retirement, you will want to consider low-risk options with a steady return.
If you’re finding it difficult to choose the right assets that would maximize your returns over the years, consider talking with a qualified wealth planning adviser for professional guidance on buying, selling and managing your investments portfolio, as well as mitigate the risk of losses.
You may also like: 5 Steps To Increase Employee Participation In Your Retirement Plan
Image source: Unsplash.com