#Finance101: Let’s Break Down the Roth IRA π
Hey there! So you’re curious about Roth IRAs, huh? Well, I’ve got you covered with all the juicy details on how they work and why they might be a smart move for your financial future.
## What is a Roth IRA?
First things first, let’s talk about what exactly a Roth IRA is. Essentially, it’s a type of retirement account where you contribute post-tax dollars, meaning you don’t get a tax deduction upfront like you would with a traditional IRA. The big perk? Your money grows tax-free and you won’t owe any taxes when you withdraw it in retirement.
## How Does It Work?
Now, onto the nitty-gritty of how a Roth IRA operates. You can contribute up to a certain amount each year (check the current limits on the IRS website), and your money can be invested in a variety of options like stocks, bonds, or mutual funds. The key advantage is that your investments can grow over time without being taxed, leading to potentially larger gains down the road.
## Steps to Get Started
Ready to jump on the Roth IRA bandwagon? Here are some actionable steps to help you get started:
– Determine your eligibility: Make sure you meet the income requirements to contribute to a Roth IRA.
– Choose a provider: Look for a reputable financial institution to open your Roth IRA account.
– Set up automatic contributions: Consistency is key, so consider setting up automatic deposits from your bank account.
– Select your investments: Research and choose investments that align with your risk tolerance and financial goals.
## Closing Thoughts
In conclusion, a Roth IRA can be a powerful tool for building a secure retirement nest egg. By contributing consistently and investing wisely, you can take advantage of tax-free growth and potentially enjoy a more comfortable retirement down the road. So why wait? Start investing in your future today with a Roth IRA! πͺπ
I hope this overview was helpful in demystifying the world of Roth IRAs for you. Happy investing! ππ°
Itβs a retirement account that offers tax advantages.
Youβll pay taxes in the year you earn money; you contribute money to the Roth IRA. Β That money grows tax freeβ¦.no taxes on dividends or capital gains if you sell for something else. Β In retirement that money can be used tax free
Since you already paid taxes; you can pull your contributions out before age 59.5 tax and penalty free
(Both traditional and Roth have ways to access funds early)
When you retire, that means you donβt work anymore, but **you still need money**.
In the US most workers pay into Social Security (and Medicare) and when they hit retirement age they can start collecting. How much you get depends on how much you made, how long you worked, the age you start collecting, the current economy, etc.
However, just Social Security isnβt enough for most people, so **you should be saving for retirement on your own** in addition to your SS contribution, general advice is **at least 15%** of your gross income but more ideally 20%.
The government also wants its citizens to not be low-income, so they give **tax benefits to accounts specifically for retirement** (which have restrictions, such as age limits, to when you can take all the money out). You can just save money and earn interest, but investing in βsafeβ index funds/bonds is usually the way to go as they typically increase more.
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A **401(k)** is a retirement account that jobs can offer as a perk, a greater perk is that **many jobs will also contribute money** into your retirement account and this money is on top of your regular salary / hourly pay, **this is called a βmatchβ** as itβs usually contingent on you having to contribute. Do note if you work for a non-profit or government employer that other accounts exist as well (401(a), 403(b), 457(b), TIPS, etc.).
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However, **not every job offers a 401(k)** or maybe thereβs no match and/or maybe high fees and/or poor investment options. **This is where an IRA comes into play**. It stands for **Individual Retirement Account**, and as the name suggests it is **opened up by yourself**, you just have to select which broker you want to use (I use Fidelity, who is the 3rd largest in the US behind Charles Schwab and Vanguard).
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However, the **tax benefits of retirement accounts arenβt 100% tax-free**, you just pay less taxes than on non-retirement accounts.
If you just save money in a saving account, the money you put in you already paid payroll taxes on (income tax + SS + Medicare) and any interest you earn you also pay income tax on.
If you invest money in stocks, the money you put in you already paid payroll taxes on and any gains you make when you sell get taxed as capital gains (short-term is <1yr of ownership and is taxed as income federally and varies by state; long-term is 1+ years of ownership and is taxed federally at a lower rate, for lower income people itβs tax-free, and varies state by state).
Retirement accounts you only pay payroll taxes on. There are 2 options, **Traditional or Roth**.
**Traditional** means you put off paying income taxes till retirement (you still pay SS + Medicare taxes). You pay the income tax on the entire amount.
**Roth** means you pay all payroll taxes now.
Some people think Roth is automatically better as you donβt pay taxes on your gains, but over many years inflation has a huge impact so paying tax on $5k now isnβt much different than say $30k in 40yrs.
The general advice is to think about your tax brackets, if you think **your taxes will be higher in the future** (like maybe you just started working) **then do Roth**, if you think **your taxes will be lower in the future** (like maybe you make $300k/yr as a doctor but donβt live a lavish life in retirement) **then do Traditional**.
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Be aware high-earners are not eligible to do a Roth IRA (there are loopholes though) and high earners who have access to a 401(k) also donβt get any tax benefits in a Traditional IRA (meaning the same as a regular investment account).
There are also yearly limits to how much you can contribute to retirement accounts.
β’ https://www.irs.gov/retirement-plans/plan-participant-employee/retirement-topics-ira-contribution-limits
β’ https://www.irs.gov/newsroom/401k-limit-increases-to-23000-for-2024-ira-limit-rises-to-7000
Regular IRA:
* You get paid by your employer
* Before taxes get taken out, you put $1000 in your IRA
* It turns into $10000 over time
* When you retire, you take out $2500
* The money you take out counts as taxable income
Roth IRA:
* You get paid by your employer
* After taxes get taken out, you put $800 in your Roth IRA
* It turns into $8000 over time
* When you retire, you take out $2500
* The money you take out doesn’t count as taxable income