What Is An IRA?
WHAT IS AN IRA?
Something about acronyms always makes any topic sound more intimidating than it has to, and I have a sneaking suspicion that the IRS is a part of these feelings for Americans. However, an IRA should be a comfortable and familiar acronym to everyone because it is one of the main types of retirement account options.
Unfortunately, it is often not comfortable or familiar at all.
Don’t worry, we got you!
This post is to help explain what on earth this foreign acronym means and how it may apply to you.
What does IRA stand for?
An IRA is short for Individual Retirement Arrangements.
What does it mean?
Individuals are solely responsible for putting money into their fund, otherwise known as contributing. This type of retirement fund was established so individuals could contribute towards their retirement, regardless of where they work. Which is why it is called Individual Retirement Agreements and is not linked or attached to a job like a 401(k) is.
What do you mean by ‘fund’?
All retirement accounts are essentially a portfolio, meaning it contains a mixture of publicly traded stocks and bonds. There are many nuances but those are the two main items.
The money in your portfolio is commonly referred to as a fund.
The company that holds your portfolio is who receives and holds your money until retirement. Again, many nuances, but this is the main idea.
Then at retirement, that company will send you a monthly check based on how much money you put in and how much money it earned. Cha-ching!
Each portfolio is unique and built based on how much risk you are willing to take on. If you are unclear as to the best stock/bond options for your fund, please consult a professional because the stock market is forever changing and there is no way to consult you via blog post.
What do you mean by ‘earned’?
Just like any stock market based fund, when the market dips you lose money but when it jumps you earn money.
Retirement funds are built on some of the “safest” stocks and bonds in the market. I put that in quotes because when you put money in the stock market there is always a level of risk you are taking.
But do not let this scare you because statistically speaking, you are more likely to make money than lose money in a retirement fund over its life.
When can I retire?
This depends on how much you have saved/when your fund allows you to withdraw without penalties. My personal IRA account allows distributions at 59.5 years old. Social Security is currently at 67 if you are born after 1960. Here is a schedule of full retirement age for Social Security.
Make sure you read the fine print when trying to find a retirement account so that you can plan accordingly and not be surprised when you want to retire but are not old enough.
Can I have both an IRA and a 401(k)?
Absolutely, and I strongly encourage it if you can financially support it. Like anything, diversity is always key.
What is the difference between an IRA and a 401(k)?
The most noticeable difference between the two is whether or not your employer is involved. An IRA will follow you no matter what job you are at and you are solely responsible for it.
What does it do?
We live in a time where employee retention rates are low in comparison to previous generations. Some believe employees are to blame, but I am more of the opinion it is a mixture of employees and employers, but I digress…
An IRA allows you to take control of saving for your future. It is not reliant upon any individual employer or vested schedule. It takes most of the confusion out of the equation. You are in full control of what goes into your account and when.
It allows you freedom and a bit more stability.
What options are available?
Most good plans give you the choice between traditional and Roth. From there you can pick what goes into your portfolio.
What is the difference between traditional and Roth?
A traditional account reduces your taxable income (or gross wages) when you contribute to your fund so it will be taxed when you get your distributions at retirement - fancy talk for it taxes you later and acts like you never had that money to begin with.
A Roth account taxes you when you contribute to your fund, but does not tax you in retirement - basically the money is recognized as earned, so you are taxed based on your current position instead of in the future when you're pulling out the funds.
Another way to put it - you will get taxed when withdrawing funds in a traditional account whereas a Roth account has already been taxed and you get the full amount you are withdrawing.
How much can I contribute?
As per the IRS website: The most you can contribute to all of your traditional and Roth IRAs is the smaller of:
For 2021, $6,000, or $7,000 if you’re age 50 or older by the end of the year; or your taxable compensation for the year.
For 2022, $6,000, or $7,000 if you’re age 50 or older by the end of the year; or your taxable compensation for the year.
For 2023, $6,500, or $7,500 if you’re age 50 or older by the end of the year; or your taxable compensation for the year.
When can I start it?
Yesterday.
Saving for your future is vital. Retirement is something that most people feel like they can put off planning for, yet a goal that everyone aims for. These two points do not coincide.
Your future starts now.