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What is a traditional IRA? Everything you need to know

Preparing for your retirement years is a crucial and ongoing step in managing your finances, and the earlier you start, the more time you'll have in the market. Contributing to a traditional IRAs is a common method of investing toward retirement — let's look closer at this type of account.

Traditional IRA explained

A traditional IRA (individual retirement account) is a popular type of account specifically geared toward saving for retirement. It allows you to make contributions that are tax-deferred — meaning, they aren't taxed until they're withdrawn or distributed. Traditional IRA contributions are typically deductible, but if you or your partner are covered by a retirement plan at work ( through a 401(k) , for instance), the amount you can deduct may be reduced or eliminated. 

Traditional IRA contribution limits for 2024

Traditional IRAs have contribution limits. For 2024, an individual may contribute up to $7,000 to an IRA. If you’re age 50 or older you may contribute $8,000. However, you must have enough earned income to cover your contribution. So, if your earned income for the year is less than the contribution limit, you can only contribute up to what you earned. For example, if you earned $4,000, you could contribute a maximum of $4,000. 

You may be able to deduct some amount of your contributions, if you meet the IRS requirements for filing status and income.

Why would I want a traditional IRA?

A traditional IRA can be a powerful tool by deferring taxes while you’re building your nest egg.

1. You want to reduce your tax burdens now, which may help you save more.

Contributions to a traditional IRA may be tax-deductible in the year that you make them, but they may be reduced or eliminated based on certain IRS requirements (such as income limits and filing status).

An added bonus of reducing the amount you have to pay in taxes now is that it may allow you to contribute more to your IRA (within federal limits) for retirement later. Just remember you do have to pay taxes when you pull the money out. 

2. You expect to be in a lower tax bracket when you retire.

While you can never know for sure what the future holds, if you think you’ll be in a lower tax bracket when you retire, you might be better off with a traditional IRA. If you're able to deduct your contributions now, your current tax bill ends up being lower. And if you start taking distributions in retirement at a lower tax rate, you’ll pay less in taxes then, too. 

3. You’re not covered by a retirement plan at work and/or aren't eligible for a Roth IRA.

If your employer doesn’t offer a retirement plan, a traditional IRA may be a good way for you to put away tax-deferred dollars. Keep in mind that depending on your marital status and whether your spouse is covered by a retirement plan at work, you may be subject to income-based deduction limits.  

Another reason you may want to check out traditional IRAs: Your income exceeds the IRS limits for Roth IRA contributions.

If you are eligible for both, compare Roth vs. traditional features to see which one fits your retirement goals. Ally Invest offers invest IRA products tailored to customers who prefer to manage their own trading as well as those who prefer a hands-off solution.

What are the pros and cons of a traditional IRA?

Pros of a traditional IRA

  • You have access to invest in a wide selection of diverse assets

  • There are no income limits when you contribute to a traditional IRA

  • Deferred taxes allow for possible increased compounding of interest

  • Savings may be used for certain purposes without incurring any early distribution penalties

Cons of a traditional IRA

  • Annual contributions are limited and tax deductibility may be reduced or eliminated depending on your workplace retirement plan and income

  • Early withdrawal penalties will typically apply for distributions that are taken prior to age 59 ½

  • The year that you turn 73, you must start withdrawing the minimum amount of money (and pay taxes on it)

When deciding on whether to invest in a traditional IRA or not, you may want to weigh in on what your retirement goals are. While there are quite a few IRAs to choose from, it’s smart to compare them before deciding which will work best for your situation.

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