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The Best Way to Invest $5,000 Today

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It's not enough to find truly great stocks. To make the most from your investing prowess, you also have to know where to put those stocks once you find them. Otherwise, you could end up losing a big portion of your gains unnecessarily.

Many have found that owning high-performance stocks over the long haul was their key to open the door to substantial wealth. Some stocks, such as PotashCorp (NYSE: POT  ) and Hansen Natural (Nasdaq: HANS  ) , make explosive moves upward over relatively short periods of five or 10 years. Others, though, such as Johnson & Johnson (NYSE: JNJ  ) and Procter & Gamble (NYSE: PG  ) , take longer, but build inexorably year after year, rarely blowing the market out of the water, but gradually putting together an impressive track record.

Splitting your wealth
Over time, those track records add up. Just take a look at how much money you could have accumulated with those stocks and others like them:

Stock

Time Frame

A $5,000 Initial Investment Is Now Worth

PotashCorp

10 years

$57,096

Hansen Natural

10 years

$245,763

Microsoft (Nasdaq: MSFT  )

20 years

$387,167

Dell (Nasdaq: DELL  )

20 years

$813,750

Procter & Gamble

30 years

$259,706

Johnson & Johnson

30 years

$360,750

ExxonMobil (NYSE: XOM  )

30 years

$386,471

Source: Yahoo! Finance.

But that only tells part of the story. The true measure of investing success isn't how much money your account is worth on paper; it's how much you take home when you sell and use the money, after you pay commissions, taxes, and other investment costs. And as you can see below, that's where using a Roth IRA to hold your stocks can make a huge difference.

Stock

Taxes Paid in Regular Account

Taxes Paid in Traditional IRA

Taxes Paid in Roth IRA

PotashCorp

$7,814

$19,983

$0

Hansen Natural

$36,114

$86,017

$0

Microsoft

$57,325

$135,508

$0

Dell

$121,313

$284,813

$0

Procter & Gamble

$38,206

$90,897

$0

Johnson & Johnson

$53,363

$126,262

$0

ExxonMobil

$57,221

$135,265

$0

Note: Assumes 15% maximum rate on long-term gains, and 35% rate applies to ordinary income and traditional IRA distributions.

If you're not using a Roth IRA to invest up to its current maximum of $5,000 per year -- $6,000 for those 50 or older -- then you should remedy that situation quickly. Your portfolio's depending on it.

Why the Roth rules
There are a number of reasons why a Roth IRA is one of the most powerful tools you can use to save, both for retirement as well as for a number of other financial goals. Here are just a few:

  • A great tax break. As you can see from the example above, a Roth IRA can save you thousands of dollars in taxes throughout your lifetime -- all for the price of using after-tax dollars to fund your contributions.
  • More flexibility. Unlike some other savings methods, such as 401(k) plans, you retain full control of the investment you choose in a Roth IRA. You can pick from stocks, bonds, mutual funds, and a variety of other eligible investments.
  • More access. When it comes to getting at your money, the rules for Roth IRAs aren't as restrictive as for other types of IRAs and 401(k) accounts. Once you meet some simple requirements, you can withdraw the original amount of your Roth contributions without penalty or tax at any time, even before you retire and regardless of how old you are. That compares with full taxation plus 10% penalties that often apply to traditional IRA withdrawals taken before age 59 1/2.
  • Fewer requirements. Conversely, if you don't need access to your funds, you don't ever have to make withdrawals from a Roth IRA. That's different from other retirement accounts, where requirements to take minimum distributions usually start at age 70 1/2.

Best of all, high-income taxpayers who've previously been locked out of Roth IRAs will be allowed to convert existing traditional IRAs into Roths beginning next year, without any maximum gross income limit. You'll pay tax upfront on the amount you convert -- but that may pale in comparison to the taxes you save for the rest of your life.

Do it now
If you haven't started using a Roth IRA for your investments thus far, then you really shouldn't delay any longer. The sooner you start, the faster you'll see your tax-free income start to build inside your account. There's no better feeling than seeing your stocks rise when you know you're going to keep every penny for yourself.

For more on making the most of your savings:

Find out more about Roth IRAs in our Rule Your Retirement newsletter. Inside, you'll get full access to our special report, "How to Rule Your Retirement Accounts," which answers questions about where to put your savings to make it work the hardest. A free 30-day trial gives you full access; just click here to get started.

Fool contributor Dan Caplinger has contributed to a Roth IRA since 1998. He doesn't own shares of the companies mentioned in this article.

Hansen Natural is a Motley Fool Rule Breakers recommendation. Dell and Microsoft are Inside Value recommendations. Johnson & Johnson and Procter & Gamble are Income Investor picks. The Fool owns shares of Procter & Gamble. Try any of our Foolish newsletters today, free for 30 days. The Fool's disclosure policy is the best thing going.


Read/Post Comments (12) | Recommend This Article (48)

Comments from our Foolish Readers

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 July 14, 2009, at 6:50 PM, stan8331 wrote:

    Wish I'd been smart enough to start a Roth sooner. Another benefit of the Roth is that assuming you have other retirement investments that will be taxable upon withdrawal, a Roth can in some cases provide important flexibility in terms of keeping your total annual retirement income within a favorable tax bracket.

  • Report this Comment On July 14, 2009, at 6:56 PM, ackho wrote:

    With the government debt growing ever larger, what guarantee's does an investor have that the government will not renig on Roths and require additional taxes at the time of withdraw?

    Its not unheard of for the government to change the game underneath us, the last 9 months have shown that time and time again.

  • Report this Comment On July 14, 2009, at 8:24 PM, guru111melbourne wrote:

    Ok, so I've heard trading within the Roth IRA is alright as long as you don't withdraw (Right?) so if i were to grow a 5000 dollar investment say in the ROTH to say 7000 am I able to sell the 7000 dollars worth and rebuy another security or would that violate the 5000 dollars a year maximum...i assume it wouldn't just wanted to make 100% sure.

  • Report this Comment On July 14, 2009, at 9:01 PM, TMFGalagan wrote:

    ackho: You're right that there's no complete guarantee that the rules won't change. I think it's more likely, though, that they'd change the rules to stop new Roth contributions rather than trying to impose a new tax on existing Roths.

    guru111melbourne: Once the money's in the Roth, you can invest, trade, and reinvest without limitation as long as it stays in the Roth. So if you buy a stock and your shares go from $5K to $7K, then yeah, you can sell and buy something else with the full $7K.

  • Report this Comment On July 15, 2009, at 12:36 AM, TimothyVR wrote:

    Good article.

    My company's 401K stopped its match last year - from 100% to zero in one week - and I opened a Roth immediately.

    There are plenty of options and I am looking to a ten to fifteen year time frame: not as long as I would like, but hopefully enough to build up some of the dividend stocks like JNJ, PG and PEP as the base, as well as a few riskier options.

    It's also forcing me to find out about individual stocks and educate myself.

  • Report this Comment On July 15, 2009, at 11:05 AM, jslug54 wrote:

    I think you grazed over an important point - you must pay taxes BEFORE you contribute. That means that you are starting with less which gives you less to compound with. Roth's make sense for certain people, but they are not great for everyone.

  • Report this Comment On July 15, 2009, at 3:24 PM, toopersent wrote:

    Agreed with jslug. Roth isn't for everyone. It depends on what tax bracket you see yourself in when you retire (then again, who knows what the tax brackets will look like years from now).

    Also, one thing not mentioned in this article...if you have a 401k or a traditional IRA and you convert it into a roth, you will pay taxes on every thing that rolls over. However, you can spread the tax liability over three years I believe.

  • Report this Comment On July 15, 2009, at 3:58 PM, Thuddd wrote:

    A view from the other side--I'm retired. I have zero money in Roth accounts. I bailed in November of 2007-right into the maw of the recession.

    My social security payments (reduced to age 62) are less than a thousand dollars (annually) below the maximum. Wifey gets halvsies.

    My SS plus IRA withdrawals totaled about $53k last year. Total federal and state tax(WI)(standard deductions)-$1500.

    Since I was saving about $5-$6k in fed and state taxes with my $19k annual contribution to my 401k(comes right out of the top bracket)--it would take a long time to overhaul those savings with a Roth.

    Being an old person is a sweet racket! Seriously, I think the Roth is overrated for the median Motley investor. I had my million bucks in my 401k and IRAs-now $750k, paid for house and cabin-I would say that would cover the median that a Motley reader would aspire to. I don't see the Roth advantage. Another advantage of the conventional IRA is that there are tax consequences to withdrawing an amount to buy that car/boat/motorcycle, etc.

    A conventional IRA tones down that temptation quite well.

    As mentioned before, the means test, VAT taxes and all manner of snares are out there, courtesy of some future lawmakers attempts to spread the wealth. The Roth will get banged harder, IMO.

  • Report this Comment On July 17, 2009, at 8:44 PM, Shannonymous wrote:

    The beauty of a Roth IRA is: (1) You invest money that you've already paid tax on, so you don't pay tax when you withdraw it, so in a perfect world, you end up with a lot more money than you put in, but you don't pay tax on that larger sum. (2) You can withdraw the principal (the initial sum that you put in), at any time, without penalty! Not so for a regular IRA or a 401k. Even if you borrow from a 401k, you pay back with taxed money and then, when you withdraw money from it at retirement, you pay tax on it again!

  • Report this Comment On July 24, 2009, at 11:19 AM, ltangel wrote:

    any comments on this list for Roth?

    TEG, FTR ,VOD,ATO,SE,CFL, ATW,DUK, CO, WFMI, ? Looking for additional suggestion - thank you

  • Report this Comment On January 17, 2012, at 2:20 PM, donnyd1013 wrote:

    I have 5000 dollars. I would like to invest it and make some sort of quick profit. Does anyone have an idea that I can use. I am not good at any of this.

  • Report this Comment On March 04, 2012, at 5:39 PM, midwestbonsai wrote:

    I would like to hear how you would invest $5000 today in 2012.

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Dan Caplinger
TMFGalagan

Dan Caplinger has been a contract writer for the Motley Fool since 2006. As the Fool's Director of Investment Planning, Dan oversees much of the personal-finance and investment-planning content published daily on Fool.com. With a background as an estate-planning attorney and independent financial consultant, Dan's articles are based on more than 20 years of experience from all angles of the financial world.

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