Just Because You Have Money in an IRA or 401(k), Doesn't Mean It's Invested -- Here's Why
- Tori Dunlap, the Financial Feminist, is on a mission to teach women to invest.
- She notes that it isn't enough just to put money into a retirement account; you have to choose investments within the account.
- It's important to make your retirement savings work and grow for you.
There is no investment called "Roth IRA."
Tori Dunlap is a financial influencer, blogger, and podcast host. Dunlap focuses on teaching women to manage their finances and learn to invest via her website, Her First $100K, and her podcast, Financial Feminist. On the podcast episode "Roth IRA or 401K?," Dunlap noted an important consideration for retirement accounts that you may not have realized if you're new to investing.
Dunlap is a big fan of retirement accounts. She noted on the podcast that if you can start one when you're young and put in any amount of money, it will grow due to compound interest. And your money will typically increase regardless of whether you're actively adding to it.
However, it isn't enough to just add money to a 401(k) or IRA; you've also got to figure out where that money will go. As Dunlap noted in the episode, "You are not putting your money into an investment called Roth IRA. The Roth IRA is the account that holds the investments."
Retirement accounts: a (very) brief primer
There are several types of retirement accounts, and they have some notable tax advantages. Let's briefly discuss two of the most common ones, the 401(k) and the IRA.
Traditional 401(k)s are employer-sponsored retirement savings plans, which means some employers offer them. If yours does and you qualify to participate, you can sign up and fund the account with money from your paychecks. And sometimes an employer will match your contributions up to a certain percentage -- it's basically free money! Your contributions to a traditional 401(k) are pretax, so they come out of your earnings before state and federal taxes do. And you won't pay taxes on the money in the account until you withdraw from it, ideally in retirement.
IRA stands for individual retirement account, and this type of investment account isn't tied to your employer, making it more flexible if you head into an uncertain professional future. (Gone are the days when an employee might spend an entire career with one employer.)
There are a few types of IRAs, with varying rules about tax deductions before or after contributions. For example, Roth IRA contributions are taxed before going into the account, so you won't have to pay taxes on your withdrawals later, ideally when you're retired. IRAs are more tax efficient than regular brokerage accounts, making them great for retirement funding.
Making these accounts work for you
Say you've got your 401(k) through your employer, or you've opened an IRA on your own. As Dunlap notes, until you have chosen your investments, you have not actually invested your money. Usually, you can't invest in individual companies through a 401(k); rather, your employer's brokerage service that manages the retirement accounts will have funds to pick from. Which you choose will depend on your risk tolerance, and some brokers offer default investments, or they allow you to set a default allocation for a certain percentage of your money. For IRAs, you have a wider choice of investments, but you're limited by what your broker offers (and again, by your own risk tolerance).
If you've opened one of these accounts, you've got a handy container for your retirement investments. It's tax advantaged, and is ultimately a great way to fund your future. Happy investing!
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