What is an IRA?

An IRA is an Individual Retirement Account. There are two main types of IRAs:

  1. Traditional IRA- The money that you put into the account is tax free and the growth is tax deferred.
  2. Roth IRA- The money that you put into the account is money that has already been taxed but the growth is tax free.

The most important reason to make a contribution to an IRA is to start, or continue to build, a retirement fund. Some people have retirement funds, such as a 401K set up through their place of employment. Not everyone does though, and even for those that do, it may not be enough. An IRA allows your money to grow over time to help provide you with an income when you are no longer working. Too many Americans fail to plan for their retirement and, with Social Security shrinking, it is no longer safe to assume that the money taken out of your paycheck for Social Security will be enough at your retirement. It’s wise to have other means of providing income. IRAs are a great way to do that.

Tax Benefits of an IRA

For many people an IRA is an ideal place to shelter money. The money that you place in a traditional IRA is not part of your taxable income, which could lower you tax bracket allowing you to pay less in taxes.

With a Roth IRA you may not be deducting the contributions from the current year’s income (you will pay taxes on it), but you will be able to withdraw all of the gains when you retire tax free. Your tax rate is not likely to be the same when you retire as it is now. Tax rates, for the middle and lower classes especially, historically do not go down. By paying taxes on what you put in now, you are able to take out the gains tax free when you retire. You can also withdraw any money you put in tax free before retirement since you have already been taxed on that income.

Qualifying for an IRA

There are some restrictions on who can open an IRA, the main one being income. There are limitations placed on who can open an IRA based on income caps and there is also a phase out stage. What that means is that as your income increases you will be able to contribute less and less to an IRA. If you are filing your taxes as an individual and your modified adjusted gross income is at $117,000 you will enter the phase out period until your income is at $132,000 at which time you will be ineligible to contribute at all. The limits are a little higher for a couple. If you are filing jointly you will reach the phase out period at $184,000 and ineligibility at $194,000.

There are also age restrictions. You must be 70 ½ or younger to open, or contribute, a traditional IRA.

Important to Remember

  • Minimums: 
    • In order to start your IRA as a fixed annuity you will have to contribute at least $2,000 at the beginning. There are other options that would allow you to contribute less, but for those options it would be best to consult your CPA or certified financial advisor
  • Maximums: 
    • You can contribute up to $5,500 a year if you are 50 years old or younger, and $6,500 a year if you are over 50 years old. It is the same limit regardless of how many IRAs you have.
  • Penalties:   
    • In some circumstances money can be withdrawn early without incurring the penalty. These instances are usually surrounding real financial need or to purchase a home. It is advised that you speak with your CPA before trying to do this. There are limitations and tax laws surrounding the issue that you will want guidance on.
    • There is a 10% IRS penalty on any money withdrawn from a traditional IRA before the age of 59 ½ and you will be taxed on the full amount that you withdraw. With a Roth IRA there is no penalty so long as you stay within the limit of what you put into the IRA since it was already taxed. Any money you take out above what you put in (growth) will be subject to a 10% IRS penalty if taken out before you reach age 59 ½. Each plan is set up differently and with annuities there can also be a surrender charge if you withdraw money too soon.
  • Deadlines:
  • You have until April 18th, 2017 to make a contribution for the 2016 tax year.