Get to Know Your IRA

If you think most Americans know the basics about investing and saving for retirement, check out the stats from this AARP Financial survey:

  • Some 71% of surveyed Americans believe that IRAs are worthwhile, but only 39% of them have an IRA account.
  • 44% of Americans, and half of those in the critical saving years between 18 and 49, profess ignorance about how IRAs work.
  • More than half, 55%, don't know the difference between a Roth IRA and a Traditional IRA.
  • More than a third, 36%, aren't sure whether they're eligible to contribute to an IRA, and two-thirds don't know that those 50 or older can contribute even more money each year.

The good news: These sad stats can be improved. If you're still in the dark about IRAs, read on.

How do IRAs work?
In a traditional IRA, the money you contribute gets deducted from your taxable income. For tax year 2008, the contribution limit is $5,000 for those who qualify, and $6,000 for those 50 and older. So if you earn $50,000 and contribute $5,000, your reported income will be $45,000, lowering your income bracket and saving you tax dollars up front. In exchange, when you start taking money out of your IRA (withdrawals become mandatory beginning at age 70 1/2), those funds will be taxable at your regular income rate.

With the Roth IRA, your contributions are made with post-tax dollars, making no dent in your taxable income for the year. But in return for that up-front tax hit, you get to enjoy those funds tax-free in retirement, with no mandatory withdrawals. So if your $50,000 in contributions grows to a nest egg of $350,000, you won't pay a dime in taxes on your $300,000 capital gain. Not too shabby!

If that kind of growth sounds impossible, think again: A 10% growth rate and 20 years will just about get you there. Where can you find that kind of performance? Check out these familiar stocks' 20-year average annual growth rates:

Stock

20-Year Average Return

CVS Caremark (NYSE: CVS  )

11.3%

Williams Cos. (NYSE: WMB  )

11.9%

Illinois Tool Works (NYSE: ITW  )

13.1%

Lowe's (NYSE: LOW  )

18.7%

ExxonMobil (NYSE: XOM  )

13.1%

Learn much more about IRAs in our IRA Center. And for tips on retiring well, including stock and fund recommendations, take our Rule Your Retirement newsletter service for a free 30-day tryout.

Longtime Fool contributor Selena Maranjian does not own shares of any companies mentioned in this article. Try our investing newsletters free for 30 days. The Motley Fool is Fools writing for Fools.


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Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On January 14, 2009, at 11:10 AM, davidkubica1 wrote:

    Most IRAs can also be better diversified by putting your money into more asset classes. Investing 10% - 20% of your funds into managed futures accounts is a great example of this and is highly recommended by investment advisors. Most people when you ask them about investments will simply focus on the big 3: stocks, bonds, and cash. It is because this is all they know. I would recommend looking into researching managed futures if you would like to better diversify.

    If you are interested in managed futures, you can try www.managedfuturesdepot.com. They usually have some pretty good programs that they offer. This one: http://www.managedfuturesdepot.com/NDXShadrach1108.pdf had a return in 2008 of over 128% and has averaged a monthly return of over 8% since its inception 5 years ago. The nice thing about these performance sheets is that you know they are authentic. Managed futures returns are regulated vigorously by the CFTC and are all stated NET OF EXPENSES.

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