Because Social Security by itself won't provide enough income for the typical retiree to live off, it's up to you to save for the future independently during your working years. If you've been thinking of saving in an IRA but don't quite understand how these accounts work, here are answers to some of your most pressing questions.
1. What's the benefit of saving in an IRA?
First, let's clear up one thing: There are a few different types of IRAs, the most common of which are the traditional IRA and the Roth. With a traditional IRA, you get an up-front tax deduction for contributing money. However, when the time comes to withdraw from your savings in retirement, you'll be taxed on those distributions. Roth IRAs, by contrast, don't offer an immediate tax break for contributing, but when you're ready to take withdrawals in retirement, that money is yours free and clear of taxes.
Additionally, whereas you're liable for taxes on investment gains in a traditional brokerage account each year you earn them, traditional IRAs offer tax-deferred growth -- meaning you won't pay taxes on your gains until retirement. Roth IRAs deliver an even better deal -- tax-free growth on your earnings.
2. How much can I contribute to an IRA?
Whether you're contributing to a traditional or Roth account, the annual limits are the same. Currently, you can sock away up to $5,500 a year if you're under 50, or $6,500 a year if you're 50 or older. Though these limits aren't going up for 2018, they do have the potential to increase in the future.
3. Should I open a traditional IRA or a Roth?
Whether you opt for a traditional IRA or a Roth depends on your tax situation and tolerance for risk. If you're currently earning a decent living and expect to have a higher tax burden now than in retirement, then you might go for a traditional IRA since you'll get that immediate tax break. On the other hand, if you expect your taxes to go up in retirement, you may be better off with a Roth.
Another thing to consider is that while we know what tax brackets look like today, there's no telling how they'll change over time. Saving in a Roth is a way of locking in your current tax rate on the money you contribute so there's no risk of owing the IRS more down the line. There are other benefits that come with opening a Roth account as well -- namely, that they're far less restrictive than traditional IRAs.
4. Can I open an IRA if I'm self-employed?
An IRA is a great savings option when you don't have access to a 401(k). And if you're self-employed, you get even more choices as far as IRAs go. In addition to the traditional and Roth IRA, you can also contribute to a SEP IRA or SIMPLE IRA.
A SEP IRA lets you contribute up to 25% of your net earnings each year, up to a certain point. For 2018, the maximum contribution is $55,000. Meanwhile, a SIMPLE IRA lets you set aside up to $12,500 a year if you're under 50, or $15,500 if you're 50 or older. These limits are considerably more generous than the thresholds for traditional and Roth accounts, which means you get an even greater opportunity to build a sizable nest egg.
5. When can I access my IRA funds?
Here we're dealing with a loaded question, because while the rules state that you can't withdraw funds from a traditional IRA until you reach 59 1/2, there are several exceptions. For example, you can get at that money early if you're using it to buy a first-time home, or to pay for college.
Roth IRAs offer even more flexibility. With a Roth IRA, the principal amount of money you put in is actually yours to withdraw at any time without penalty. However, you may get penalized if you touch the interest portion of your account before reaching 59 1/2.
That said, tapping either type of IRA early is rarely a good idea. The reason? That money is supposed to serve as retirement income, and if you start depleting that account during your working years, you'll have less money available as a senior, when you probably need it the most. Also, keep in mind that if you take an early withdrawal from a traditional IRA and don't qualify for an exception, you'll be slapped with a 10% penalty on the sum you remove.
Saving in an IRA is one of the best ways to ensure that you have enough money for a comfortable retirement. And the sooner you open that account, the more security you'll buy yourself for the future.
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