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It’s fun to spend money, but if you want to retire it’s important to start saving. And you’re never too young to start.
One of the best ways to save for retirement is with an individual retirement account, or IRA.
These accounts are like savings accounts, but once your money is in an IRA you’ll pay steep fees if you take it out early.
Retirement plans come with tax advantages and returns on the money you put in.
This guide will teach you how to open an IRA and what your options are.
What is an IRA?
An IRA is a type of retirement plan. Employers sometimes offer retirement plans called 401(k)s, but if your employer doesn’t, IRAs are usually the best option.
Opening an IRA is a lot like opening a savings account.
The main difference between an IRA and a savings account are the returns you make on your money, tax advantages, and penalties for taking out money before the age of fifty-nine-and-a-half.
Money you put into an IRA gets invested, unlike a savings account. If you make good investments, your IRA usually grows over time.
There are many ways to invest in an IRA, but you can start by asking your bank for recommendations.
Roth vs. Traditional IRA
There are two types of IRAs: Traditional and Roth.
Traditional IRAs let you deduct the amount you put into your IRA from your tax payments.
Not so fast, though. The IRS limits how much you can contribute to your IRA each year.
For 2020, they set the limit at $6,000 for people ages 49 and under. If you’re 50 or over, the limit is $7,000.
In addition to the limit, if you or your spouse contributes to a retirement plan through work, you may not be able to deduct all of your contributions
If you contribute $3,000 to your traditional IRA this year, you may be able to deduct $3,000 from your income on your tax return.
Between now and retirement, your contributions grow tax-free, but when you do retire you have to pay taxes on the final amount you withdraw from your IRA.
The main difference between traditional and Roth IRAs is that Roth IRAs are not tax deductible.
You will pay taxes on the money you contribute to your Roth IRA the year you put money in, but not when you pull out during retirement or on your return.
Roth IRAs also have maximum income limits. In 2020, you can’t contribute to a Roth IRA if you earned more than $139,000 if you’re single, or if you and your spouse earned more than $206,000 together.
Choosing the right IRA
It’s best to think about it like this: if you think taxes will be higher when you retire, put your money in a Roth, if not, go with the traditional.
You can also open both a traditional and Roth IRA and contribute to both to hedge your bets.
It pays to do your research. Think about talking to a financial advisor if you can afford it.
How to open an IRA
Once you decide what type of IRA is right for you, it’s time to set it up.
Here’s your step-by-step guide:
- Choose a type of IRA type
We’re talking Roth vs. traditional here.
- Choose a financial institution
You can open your IRA with a bank, credit union, mutual fund company, or another financial institution.
Look for IRAs with low management fees.Read reviews before settling on an option.
And if you’re going to want help managing your IRA, look for an account that comes with a broker.
Not sure where to start? Google “best IRAs”.
- Open your account
Once you pick a company, go to their website. Follow their instructions online or call in.
- Choose your investments
As you open your account, you’ll probably need to choose how the money you put into it gets invested.
Some companies will suggest investments. This is good for anyone who doesn’t know a lot about investing.Others will just ask you how much risk you want to take on.
A common strategy is to take more risks when you’re younger and fewer as you near retirement.
- Fund your account
Now it’s time to put money into your IRA.
Most companies ask you to make a deposit right away, but after, you’ll have to decide if you want to make regular payments or an end of the year lump sum.
Track your spending and income and see what works best for you.
It’s a lot to think about, but starting early is always better.
Start seeing how much you can set aside and doing your research.
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