Learn About IRAs

IRAs and Roth IRAs:

What’s the Big Deal?

Do you like to pay taxes?  

Didn’t think so.

“IRAs” , or Individual Retirement Arrangements”, are do-it-yourself retirement accounts that can help you pay less taxes, either now or in the future.  So, you get your money working much harder for you.

If you don’t get a retirement plan at work, then an IRA becomes your main retirement account.

If you already have a retirement plan at work, you can still normally have an IRA as well.  See your tax professional or research the requirements and conditions for this.  But you should max out your work plan first, as these plans have higher limits and other favorable features.

There are two types of these DIY plans:

Traditional IRAs and its newer cousin, the Roth IRA.

The difference between the two has to do primarily with timing of when you pay taxes.  Each type has its own benefits.

With a Traditional IRA, you get the tax benefit up front.  So you can deduct your contributions which decreases your income for taxes each year.

Since there’s no free lunch, you will then pay taxes when you withdraw money during retirement.  And since Uncle Sam does not want to wait, you have to take required mandatory distributions when you turn 70 1/2.  

Yep, 70 and 1/2.  No clue on that one, sorry.

With a Roth IRA, you contribute after-tax dollars.  So while there’s no savings up front, you’ve already paid your taxes.  So when you retire, you can withdraw all of the money (including all of your earnings) tax-free, over time.  Given the power of compounding, this can be a significant benefit to most of us.

And you paid Uncle Sam going in, he doesn’t care when you start taking the money out.  So there’s no mandatory minimum distributions.

A Roth IRA is also quite flexible.   

If needed, you can withdraw your original contributions at any time without incurring a penalty. That’s because you already paid tax on those—you contributed after-tax dollars. So in case of a cash crunch, you can withdraw the contributions—but none of the earnings—without penalty or tax. BUT: make sure you keep good records of your contributions, so you can prove that you’re only taking out contributions, if necessary.

So when CAN I take money out without a penalty?

Aside from the Roth original contributions, you can begin taking money out of your IRAs without penalty once you hit 59½.  

Remember, if it’s a Roth, you’ve already paid taxes, so it’s tax free.  If it’s a Traditional IRA, you will pay normal income taxes on every withdrawal, but no penalty.

Because of these benefits, the IRS is a bit stricter with Roth IRAs.  

If your income is too high, or if you have certain filing status, you may not be eligible for a Roth.  Fortunately, most taxpayers do qualify. Just higher-income folks or those who file seperately from their spouse may not.  Check with your tax professional.

How much can you put in IRAs?

If you’re under age 50, you can put aside up to $5,500 a year in 2017.

If you’re 50 or older, you can add a “catch-up” contribution of an extra $1,000 per year.

These limits are the same for Traditional or Roth IRAs.

Roth vs. Traditional

While the Roth has some very attractive features, sometimes a traditional IRA might be better. If your tax rate now is high, but you believe that your tax rate in retirement will be lower, then a Traditional IRA might be better for you.  Regardless, the flexibility and tax-free withdrawals of a Roth have made it popular with those who qualify for it.

When can you get income from your IRA?  You can start taking money out without penalty when you turn 59 1/2.

You cannot leave money in a traditional IRA indefinitely. You must begin taking regular money from it once you reach age 70½. This is the required minimum distribution. The penalty is extremely steep if you don’t do this–50%!  So be careful: Double-check your calculations or get help verifying it. For more information see this link. 

Stay-at-home spouses.  If your spouse has no earned income, you can open a separate Spousal IRA for them, and contribute each year. This is a great way to help a stay-at-home spouse save in a tax-advantaged manner. 

Kids.  If you have kids who part-time jobs, they can have an IRA. There’s no minimum age, so you can open one for them. So a kid can put up to $5,500 a year (for 2017) in an IRA, but can fund it only with dollars earned working. The invested dollars don’t necessarily have to come from the child, however.