AMERICANS have been warned that starting an Individual Retirement Account (IRA) too late or investing too little could cause them problems in their senior years.
An IRA is a great way to start saving for your retirement independently, however mismanaging the account could leave you with insufficient funds to cover your expenses once you stop working.
There are a number of key mistakes you should avoid.
Below is a guide of what you should and should not do with your IRA in the years ahead:
Should: Max out when you can
While maxing out a 401(k) plan is difficult, when it comes to IRAs it’s a much different story.
The current yearly contribution limits for an IRA are $6,000 for those under 50 and $7,000 for Americans aged 50 or over.
If your income allows you to meet that maximum contribution each year, you should do so, as you’ll profit greatly over time.
For instance, if you contributed $6,000 each year to your IRA between the ages of 30 and 50, and then contribute $7,000 each year from 50 to 65, you could end up with a return of around $855,000, according to The Motley Fool.
The estimation is based on your investments making an average annual return of seven percent, which is below the stock market’s current average.
Should not: Start too late
An IRA account allows your money to grow in a tax-advantaged fashion.
Therefore, the sooner you start funding one, the more wealth you’ll accumulate over time.
On the flip side, if you wait too long, you may be left with an insufficient balance by the time it comes to retiring.
For instance, if you start funding an IRA at aged 50 and retire at 65, even if you max out your yearly contributions, you’ll only end up with around $176,000.
That sum is unlikely to get you far in what could be a 20 or 30 year retirement period.
Should not: Be conservative in investments
IRAs permit savers to buy individual stocks that could help you invest your money in a way that propels its growth.
This is different to a 401k plan, which limits you to different mutual funds.
But if you play it too safe in your IRA investment by only sticking to bonds, you’re likely to miss out on higher returns.
In contrast to the $855,000 you could make by maxing out an IRA with a 7 percent average annual return, if you invest too conservatively and cut your return to 4 percent, you’ll end up only with $462,000.
Should: Consider a Roth IRA
A Roth IRA is an individual retirement account (IRA) that allows qualified withdrawals on a tax-free basis provided certain conditions are met.
Roth IRAs are similar to traditional IRAs, with the biggest distinction between the two is how they’re taxed.
Roth IRAs are funded with after-tax dollars; the contributions are not tax-deductible. But once you start withdrawing funds, the money is tax-free.
In contrast, traditional IRA deposits are generally made with pretax dollars; you usually get a tax deduction on your contribution and pay income tax when you withdraw the money from the account during retirement.
Higher earners are prohibited from funding a Roth IRA directly.
However, should your income be too high, you can still contribute to a traditional IRA and convert it to a Roth IRA at a later date.
Doing so will give you the benefit of tax-free withdrawals during your retirement years.
For more money and savings tips, visit The US Sun’s Money page.