Individual Retirement Accounts
Course Section
Starting to properly plan for retirement begins with asking the most basic of questions: What type of account do you want to open? Your answer is critical—so critical that it can affect your whole retirement picture in the future. Different types of retirement accounts provide you with different ways to deposit money, invest money, keep the money earned, and even to use the money you accumulate. So be sure to consider the differences among the types of accounts and choose the one(s) that work best for you.
Individual Retirement Accounts, or IRAs, are special accounts with tax advantages to help you save for retirement. There are two types of IRAs:
- Traditional IRAs allow you to save money without paying taxes until you withdraw it. The money you put into the IRA can lower your taxable income and grows tax-free while it's in the IRA account.
- Roth IRAs offer a slight twist on the traditional IRA. There are differences in the tax advantages and who can open a Roth IRA. The most attractive part of Roth IRAs is that your money is withdrawn without paying federal taxes.
What is the difference?
Here is a quick reference chart to help you compare traditional and Roth IRAs.
If you want greater detail, scroll down to the sections explaining each type of
IRA.
Traditional IRA |
Roth IRA |
||
Eligibility |
All workers under age 70 1/2 at the end
of the calendar year (same rule applies to Spousal IRA). |
No age restrictions to open. Fully eligible if income below $95,000 (single) or $150,000 (joint). Increasing limits apply if income is higher; not eligible if income above $110,000 (single) or $160,000 (joint). |
|
Contributions |
Made with pre-tax income. Reduces gross
taxable income for that year by the amount contributed. |
Made with after-tax income. |
|
Tax Benefits of Contributions |
Fully deductible if you don't have an
employer retirement plan.
Nondeductible if you're covered by an employer retirement plan and have a modified adjusted gross income above $60,000 (single) $85,000 or $160,000 (married filing joint, and depending on who has a retirement plan at work). Partially deductible if you have a modified adjusted gross income in 2006 between $50,000-$60,000 (single) or between $75,000-$85,000 (married filing joint). |
Not deductible. If converting from IRA to
Roth IRA, the taxable portion of the IRA is taxed in year of conversion. |
|
Maximum Contribution (per individual) |
Tax Year: 2005 |
Under age 50: $4,000 |
Same (but if you have both an
IRA and a Roth IRA, the total contributions can't exceed limits shown
at left). |
| Tax Year: 2005 |
Over age 50: $4,500 |
||
Rollovers |
No annual limit on amount rolled over from
another qualified plan |
Same |
|
Conversion |
May convert from IRA to Roth IRA if income
is $100,000 or less. |
||
Earnings/Withdrawals |
Untaxed until withdrawn. |
All qualified distributions after age 59
1/2 are untaxed. Could be penalty if not in account for at least 5 years. |
|
Distributions |
Must begin distributions by April 1 in year after turning
70 1/2.
If distribution less than minimum annual requirement, penalty of 50% of amount that should have been distributed. |
No distribution requirements, except possibly in case
of death. |
|
Distributions before age 59 1/2 |
Generally taxable and subject to 10% early withdrawal penalty, unless exceptions:
10,000 not penalized (but taxable) if withdrawn for first-time home purchase. Full amount taxable but not penalized for certain other situations. |
Earnings generally taxable and subject to 10% early withdrawal penalty, unless exceptions: $10,000 not penalized (but taxable if in account for less than 5 years) if withdrawn for first-time home purchase. Any earnings taxable but not penalized for certain other situations. |
Take Action
- To find out which type of IRA may be best for you, go to http://screen.morningstar.com/ira/iracalculator.html
AARP Resources
 |
Because your Money Matters, get more tips and action steps on IRAs - PDF file |
Additional Resources
Basic information on IRAs can be found at www.fool.com/ira.
This column is meant to provide general financial information; it is not meant to substitute for, or to supersede, professional or legal advice.
Note: The content areas in this material are believed to be current as of this printing, but, over time, legislative and regulatory changes, as well as new developments, may date this material.
