The answer is now. We know, IRAs are not the most exciting topic. When you’re young, IRAs may bring to mind loudly-colored Hawaiian-print shirts and socks with sandals. However, retirement planning is definitely better to start now rather than later. While it’s top of mind, let’s talk about what you need to know about opening an IRA.
Types of IRAs
There are two primary kinds of IRAs, Roth and Traditional. With both, you can invest up to $5,500 a year if you’re 50 or younger. After that, you can invest up to $6,500.
There are some key questions to ask yourself when deciding which IRA type makes the most sense for you right now. Could I use a tax deduction this year? Do I expect to earn more money as I get older? Do I have enough in other savings accounts or might I need this money for an unexpected expense?
If you’re just getting started in your career and are likely headed up the income ladder, Roth IRAs are particularly attractive. With a Roth IRA, the tax advantage comes later, rather than in the year you make the contribution. However, the money you invest can be withdrawn anytime tax-free, meaning that a Roth IRA can double as an emergency savings plan.
OCCU Special Account Administrator Anne Stone, says, “The advantage of a younger saver contributing to a Roth IRA is that as their income rises to a higher tax bracket they do not need to worry about including withdrawals in their income – or the potential earnings if the withdrawals are qualified.”
You’ll also want to consider mandatory distributions. Unlike a Traditional IRA, a Roth IRA doesn’t require distributions. Since the money in a Roth has already been taxed, you’re not required to withdraw it.
Traditional IRAs are accounts using tax-deferred money, meaning you won’t pay income taxes on the money you contribute until you withdraw it from the IRA. If you’re eligible, you’re contributions can be tax deductible. And who can’t use another tax deduction?
“Traditional IRAs appeal to higher income savers, particularly during tax season, because in making a Traditional contribution they may be able to deduct it. If eligible, this lowers their taxable income when they are filing their taxes.” says Stone.
In fact, the tax advantage makes Traditional IRAs a great option if you’re looking to lower your tax payment this year. Contributions made by April 18 can be counted toward the 2016 tax year. Talk to your tax advisor to make sure your contribution would be eligible as a deduction.
When you’re young, it’s tempting to think you have plenty of time to contribute to retirement later and you’ll make it up in a few years, when you feel like you can afford to save. But when you factor in compounding interest, it doesn’t work that way. With either type of IRA, the sooner you begin contributing, the better. Even if you contribute more later on, you won’t be able to make up the earnings you lose each year by not contributing.
Stone offers an example, "John starts putting $100 a month in an IRA at age 25 until he's 65. When he retires he'll have $74,153 (assuming compound interest around 2%). However, Bob doesn't start putting money in his Roth until he's 35. He then puts the same $100 every month until he reaches 65. He'll only have $49,836 when he reaches 65! Those 10 years of not investing cost him $24,317."
Use our savings calculator to map out different saving scenarios. You’ll see the benefits of saving early. You can save the Hawaiian-print shirts for later, but consider investing in an IRA now.
To get started with an IRA, contact an OCCU representative to learn more and open an account.