IRA Savings Accounts
Types of IRA accounts
IRA accounts come in many flavors, but they’re all alike in one respect: Each is actually just a shell that can hold money in many different forms of investments. Different IRA, different shell, with different rules according to how the IRS treats it.
For example, you can deduct any contributions (money you contribute to an IRA) from your income if you contribute to a traditional IRA. This will lower your tax bill and could even net you a refund come tax time. But if you contribute to the similarly named Roth IRA, those contributions are not tax-deductible, and they will not lower your tax bill.
Why are there so many different types of IRA accounts? It isn’t just to confuse the heck out of people.
Indeed, having the different types gives you an array of ways to save for retirement and tailor a savings plan to your individual situation.
The more flavors, the happier everyone is likely to be.
Let’s look at the most common types of IRA accounts:
A traditional IRA is the bread and butter of IRA accounts. For the 2017 tax year, you can contribute up to $5,500 ($6,500 if you’re 50 or older) across both your traditional IRA and your Roth IRA combined. As noted above, you are allowed to deduct up to the full $5,500 (or $6,500, if eligible) on your taxes each year. For someone in the 25 percent tax bracket, that could put an extra $1,375 back in your pocket.
But remember: Once you put the money in your traditional IRA, you generally cannot take it back out before age 59 ½ without being socked with fees and taxes. Plus, when you do get to take the money out during retirement, that income will be then be subject to income tax just as if you’d earned it from a job. It’s the tradeoff you’ll make for getting to write off the contributions on your taxes when you were younger.
The contribution limits are the same for Roth IRAs as for traditional IRAs, but that’s about where the similarities end. Roth IRAs are also only available if you earn under a certain yearly limit ($186,000 for married-filing-jointly filers, and $118,000 for single and head-of-household filers).
You can’t take a tax deduction for any contributions you make into your Roth IRA, however you are able to withdraw any of the contributions you put in, at any time and for any purpose. Still, it’s highly recommended to keep the cash in savings so you don’t go broke in retirement.
Note: This doesn’t mean you can withdraw your entire account, only the portion you put in yourself. You can’t withdraw any of the earnings from your account without incurring penalties.
Furthermore, when you are finally able to withdraw the money after age 59 ½, you won’t pay any income tax on your withdrawals. It’s almost like free money, except that you chose to pay the tax on it when you put the money in, as opposed to paying the tax on the money when you take it out — as with a traditional IRA.
A SIMPLE (Savings Incentive Match PLan for Employees) is an entirely different beast than traditional or Roth IRAs. It’s actually a type of employer-sponsored plan.
“A SIMPLE IRA is very much like a 401(k) plan. It just has less paperwork for the employer,” says Bob Gavlak, certified financial planner with Strategic Wealth Partners, which has offices in Ohio, Tennessee, California, Maryland and California. That means it’s easier for small businesses without huge HR departments to offer a retirement plan to their employees.
If your employer offers a SIMPLE IRA, it must contribute to your account, up to 3 percent of your salary. It’s up to you whether you want to contribute or not. If you do want to contribute, you can save up to $12,500 per year (and that’s on top of your traditional and Roth IRA accounts).
Like a SIMPLE IRA, a SEP (Simplified Employee Pension) IRA is a workplace-sponsored plan.
“It’s most often used for people that are self-employed, like a CPA that has his own or her own practice, or an attorney that does her own thing,” says Gavlak.
SEP IRAs are unique employer-sponsored retirement plans because only your employer can contribute to them, up to 25 percent of your salary. In other words, you don’t put a dime of your own money in — it’s all handled through your business account if you’re self-employed (or your company if it opts for a SEP IRA).