Retirement
The ABCs of IRAs
Individual Retirement Accounts (IRAs) are popular and time-tested vehicles to accumulate savings for your golden years. But the rules associated with them must be closely followed or else you could forfeit many of the advantages of these accounts.
There are two basic types of IRAs: Traditional and Roth. The fundamental concept is the same - during your working years, you sock away money in tax-advantaged accounts, with a view toward using the proceeds for retirement. But they differ greatly in the details.
Here is a basic primer, followed by links to more detailed information:
- Eligibility: Traditional IRAs are open to anyone under the age of 70 with earned income. Roth IRAs carry no age restrictions, but they do carry income restrictions.
- Contributions: Both types impose limits on your annual contribution. For 2008, workers under age 50 cannot contribute more than $5,000 to any IRA; those over 50 can contribute up to $6,000
- Accounts and Investments: Most brokerage firms can open an IRA for you, and your contributions can be spread over a wide range of investments - individual stocks and bonds, mutual funds, Treasury bills, certificates of deposit, money market accounts, etc. Be sure to monitor the various costs of these investments and the annual maintenance fee that might be charged by the investment firm.
Tax benefits: This can get complicated.
In general, you fund a traditional IRA with pre-tax money - that is, your gross taxable income is reduced by the amount of your annual contribution. Your money grows tax-free. Withdrawals, however, are taxed at your regular federal income tax rate at the time of withdrawal - presumably a lower rate during retirement than you were paying when you were employed. You also may be penalized for any withdrawals before you reach 59 years old.
You fund a Roth IRA with income that already has been taxed. Your money then grows tax-free - and you pay no federal income taxes at the time of withdrawal, assuming you are over 59 years old.
- Withdrawals: In both cases, you can begin making penalty-free withdrawals at age 59. (A Roth IRA also allows you to withdraw your contributions - but not any earnings on those contributions - at any age.) You must begin withdrawals from a traditional IRA by April 1 of the year during which you turn 70. In most cases, no such rule applies to Roth IRAs.
More information:
www.aarp.org/money/financial_planning/sessionseven/individual_retirement_accounts.html
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