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The Best Stocks for Your IRA

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As you start ramping up to get your taxes filed, keep an eye on how much you're likely to owe. If it looks like you'll be paying more taxes than you'd like, making an IRA contribution can help you cut those taxes.

But once you have your account open, you'll need to decide how to invest your cash. Here are a few tips for picking the best stocks for your new IRA.

Keep taxes in mind
If you want immediate tax savings, a traditional IRA is the right move for you; it will allow many taxpayers to take a tax deduction right now. In picking stocks for a traditional IRA, the most important thing to consider is that you won't have to pay tax on any income or capital gains until you start taking money out of your account when you retire.

In contrast, if you own a stock in a taxable account, you have to pay tax on your dividend income as you earn it. You can defer capital gains, however, as long as you hold onto your shares.

To take maximum advantage of your traditional IRA, use it to buy stocks that pay the highest dividends. The following chart shows examples of how much you'd save each year if you invested $50,000 in a number of different stocks.

Stock

Current Dividend Yield

Annual Tax Savings

Verizon (NYSE: VZ  )

6.0%

$450

Pfizer (NYSE: PFE  )

3.8%

$285

SYSCO (NYSE: SYY  )

3.5%

$263

Costco (Nasdaq: COST  )

1.2%

$90

Google (Nasdaq: GOOG  )

0.0%

$0

Assumes 15% maximum rate on qualified dividends.

As you can see, the higher the dividend, the greater the savings from owning your shares in an IRA. Furthermore, shares of real estate investment trusts (REITs) such as Vornado Realty (NYSE: VNO  ) often have dividends that don't fully qualify for low tax rates, which means you save even more by having them in an IRA. The same is true for fixed-income securities, like bonds.

How a Roth IRA changes things
On the other hand, if cutting your taxes right now isn't your primary consideration, a Roth IRA can be a better long-term bet. Rather than simply deferring your taxes until you take money out of your account, a Roth IRA lets you enjoy that growth tax-free.

That's a huge advantage over traditional IRAs, especially for growth stocks. In a traditional IRA, high-growth stocks like Green Mountain Coffee Roasters (Nasdaq: GMCR  ) might make your account balance go up faster, but you'll pay tax at your ordinary rate when you retire and take out the money. You won't qualify for lower capital gains rates, even if you hold those shares for years.

With a Roth IRA, though, you'll never pay tax on income, whether it comes from dividends or capital gains. That gives Roth IRA owners a bit more flexibility in structuring their retirement portfolios.

Whether you pick a traditional or Roth IRA, make sure you don't miss out on making an IRA contribution for 2009. It's not too late, and what you'll save is too good to pass up.

Want to know more about investing for retirement? The Fool's Rule Your Retirement service can help. Take advantage of our free 30-day trial offer and build a strong retirement investment strategy.

This article was originally published April 4, 2008. It has been updated by Dan Caplinger, who doesn't own shares of the companies discussed in this article. Costco, Pfizer, and SYSCO are Motley Fool Inside Value choices. Green Mountain Coffee Roasters and Google are Motley Fool Rule Breakers recommendations. Costco is a Motley Fool Stock Advisor pick. SYSCO is a Motley Fool Income Investor pick. The Fool owns shares of Costco and SYSCO. Try any of our Foolish newsletters today, free for 30 days. The Fool's disclosure policy gives you our best.


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