Individual retirement accounts (IRAs) are a key element in many people's financial plans. If you are interested in getting a tax-advantaged start on retirement by opening an account, you should know some basics to help you compare IRA plans.
First: When you compare IRA plans, you can consider a variety of IRA plans, but three types are the most common: the traditional IRA, the Roth IRAs, and SEP IRAs:
The original incentive behind an IRA was to give people a chance to save money and to defer the payment of taxes at the same time. With a traditional IRA, you deduct the contributions that you make each year from your taxable income (subject to income limits). You get a break on your taxes and a head start on retirement.
Ultimately, those funds are taxed when you reach retirement age and begin to make withdrawals. The advantage is that for many, waiting until you're at least 59 1/2 - the formal age of retirement when you can make penalty-free withdrawals from your account - means that you defer tax payments until a time your income (and, therefore, your income tax rates) likely will be lower.
With a Roth IRA, you pay taxes on the money you contribute as you go along (subject to income limits). The good news: You don't have to worry about paying taxes on the funds when you withdraw them.
So, as you compare IRA plans, remember the Roth IRA advantage: You don't pay any taxes when you tap into your IRA during retirement.
Simplified Employee Pension IRA (or SEP-IRA)
A SEP-IRA is a bit more complicated and is not used as widely as a traditional or Roth IRA. The program is designed for small businesses - but the company can be just one person, a self-employed sole proprietor.
The SEP-IRA typically works much like a traditional IRA. In this case, the employer contributes to his or her own IRA and to the IRAs of employees, if there are any. And the employer gets the tax deduction for those contributions.
An IRA can include a variety of investments. Often, as people compare IRA plans, they decide to put some portion in bank products to create a balanced portfolio of holdings.
When you compare IRA plans, think about your future needs and what you think your financial - and tax - situation will be in retirement.
By and large, just about everyone who has earned income (or a spouse with earned income) should think about having an IRA.
"There are income limitations on the ability to deduct a traditional IRA contribution [if you or a spouse are covered by a retirement plan at work], or to make a Roth IRA contribution," said Erin Baehr, president of Baehr Financial in Stroudsburg, Pennsylvania, in a recent interview with Ally Bank. "But even if the income is too high, after maxing out an employer retirement plan and fully funding an emergency fund, you can still make a non-deductible IRA contribution."
Learn more and get started at AllyBank.com or call live customer care at 877-247-ALLY (2559), where help is available 24/7.