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Adivce Guide: Funding Retirement Through IRAs

Ever wonder what to invest in, or how to save for retirement?

personal finance, money management, online education

If you’re just starting out your career or have put off thinking about saving for retirement it’s okay, because chances are your research led you to this article which tells me you’re smart – you understand the basics of personal finance and you know that now is the time to start putting money aside for retirement. This is true even if you plan to marry one day, make more money, or be discovered – which I hope isn’t your retirement plan.

What’s An IRA

Individual Retirement Arrangements, or IRAs, commonly referred to as Individual Retirement Accounts were created in 1974 under the Employee Retirement Income Security Act (ERISA), which formed to encourage workers to save for retirement. However, you don’t have to be employed to open and contribute to an IRA because this isn’t an employer-sponsored plan. As the name implies, it’s for individuals.

In fact, even if you participate in another employer-sponsored plan, it’s still a good idea to have both. Because this is an individual plan you would place funds into the account using after tax dollars. The upside is, those funds can be deducted from your next year’s tax return, the money grows tax-deferred, and, it can be withdrawn penalty free as long as your account has been opened at least 5 years.

This is the #1 reason I urge you to open an account today – and start running down the clock. Open it with as little as $100 if you’re uncertain and think you might want access to your money in the near future. Though, I encourage you to setup a transfer(s) and forget the money is there – with the exception of managing your investment. 

Read: How to Save For Retirement Without a 401(k)

Why Worry About Tomorrow Today

Invest in stocks, bonds, mutual funds, ETFs, etc. through your IRA – you choose your investments, unlike 401(k) plans. Your earnings can grow tax-free or tax-deferred given you comply with contribution limits, age restrictions, and distribution guidelines. And your contributions qualify as fully or partially tax deductible if you’re not participating in a company-sponsored plan. 

Who’s Eligible

Anyone at least 18-years of age with taxable income can open an account. And at least 21-years of age in the case of some employer-sponsored plans. You’re eligible whether you are an employee, self-employed, small business owner, or participating in separate retirement plans such as 401(k) plans. 

Can I access the funds in my IRA

Use IRAs individually or in conjunction with other types of retirement plans. Particularly use them if your employer does not offer a 401(k) plan. But, let’s say you’re single and your company plan does not offer match contributions and your taxable income is less than $58k ($92k married filing jointly), you should fund an IRA instead of participating in the company plan, because they have greater investment flexibility and contributions are tax deductible. Do a little homework to weigh the advantages of the various types of IRAs and decide which is best suited to your life-stage, income, and retirement goals.  

Read: Here’s How 401(k) Plans Can Cut Your Tax Bill

Types of IRAs For Individuals

There are two types of IRAs for individuals, Traditional and Roth. At any time you can have one or both types of accounts open.  However, contribution limits apply across all open accounts for the tax year. For 2017, the maximum contribution limit is $5,500 ($6,500 for those age 50+).  

Traditional IRA vs. Roth IRA

Traditional IRA contributions are fully or partially tax deductible and are tax-deferred until retirement age. Any distributions prior to retirement age are subject to a sizable 10% penalty in addition to the current income tax rate.

Roth IRA contributions are made using after-tax income, therefore distributions can be made tax-free and earnings from interest and capital gains also grow tax-free given are not taxed given they satisfy the 5-year qualified holding period. Contributions to either type of account may qualify you for the current Saver’s Tax Credit.

The IRS recognizes critical life events and permits early withdrawal exemptions if the funds are used for personal disability, a first time home purchase, higher education expenses, medical insurance and reimbursed medical expenses.    

Read: Should You Buy or Rent and Invest?

IRAs For Self-Employed and Small Business Owners

For self-employed individuals and small business owners, Simplified Employee Pension Plans (SEPs) and Savings Incentive Match Plan for Employees (SIMPLE IRAs) offer higher contribution limits and can be written-off as a business expense. In some cases, the employee (you) can make direct contributions to the account. 

SEP-IRA vs. SIMPLE IRA  defined benefit plans

SEP-IRA plans are for business owners seeking a low-cost, lower-maintenance alternative to offering a defined contribution plan, like 401(k) profit sharing plans. Contribution limits are 25% of employee compensation or $52,000 – whichever is least. The employer’s contribution percentages can vary each year. Though, equal employee percentages are encouraged and generally required. And there are no mandatory minimum contribution limits.

Similarly, businesses with fewer than 100 employees seeking a low-cost, low-maintenance alternative to 401(k) plans, a SIMPLE IRA allow a dollar-for-dollar match up to 3% of an employee’s compensation or $12,000 ($14,500 age 50+), whichever is less. There is a mandatory minimum contribution of 2% of an employee’s compensation up to $260,000.

This article is meant to provide general knowledge of IRAs. Anyone who is seeking to invest should do their due diligence and speak with a Financial Advisor to determine which investments best suit their goals. The Employee Retirement Income Security Act (ERISA) and the Internal Revenue Code establish the rules and regulations governing retirement accounts. For the most up-to-date information, please consult the IRS website.

 

 

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