Retirement Account Need-to-Knows: 401(k)s and IRAs
There are several different types of retirement accounts that you can choose from. However, two commonly referred to types are 401(k)s and Individual Retirement Accounts (IRAs). So, what do you need to know about these types of retirement accounts?
What to know when investing in a 401(k) account
You’ve probably heard of a 401(k), which is the most popular type of employer-sponsored retirement plan in the United States. With a traditional 401(k), your contributions aren’t taxed until you start making withdrawals from the account. However, if you change jobs, you may need to rollover your 401(k) depending on the retirement plan your new employer provides.
Another option is the Roth 401(k), which is similar to the traditional 401(k), but your money is taxed when it’s contributed. In return, your money won’t be taxed when you start using it in retirement.
Most commonly, these 401(k) contributions are invested in financial tools that are outlined in the 401(k) plan document that your employer provides. Many employers choose to match up to a certain percentage of their employees’ contributions, as an added benefit.1 But, keep in mind that the maximum contribution limit for 401(k)s for 2018 is $18,500.2
How to open an Individual Retirement Account (IRA)
IRAs are investment accounts that you can open through a financial institution and aren’t dependent on an employer. Unlike with a 401(k), if you change jobs you won’t have to worry about rolling over your IRA. The IRA contribution limit for 2018 is $5,500, or $6,500 if you’re over the age of 50.3
As the investments in the IRA grow, you owe nothing on the money you gain so long as the money stays in that account.
Traditional vs. Roth Individual Retirement Accounts (IRA)
The two main kinds of IRAs are traditional and Roth:
Traditional IRA: If you have a traditional IRA, the amount you contribute isn’t taxed right away but instead when you start taking money out of the account. Once you reach 70½ years old, you have to start using the savings in your IRA.
This type of retirement account is good if you think that your tax rate in retirement will be less than your current tax rate. Anyone can contribute to a traditional IRA, but you should talk to a financial advisor before doing so.
Roth IRA: A Roth IRA is like the traditional IRA, but your contributions are taxed upfront. Unlike the traditional IRA, this type of account is only available to those who fall below a certain income level.3 Typically, you have to make less than $199,000 a year if you file with your spouse or less than $135,000 if you file by yourself.
Diversifying your retirement account investments
What you invest your retirement savings in depends on how much time you have until you plan to retire and if you’re comfortable with market risk.
If you’re nearing your retirement age, your risk tolerance usually decreases. While you can invest in stocks, investing in other financial tools that are less affected by market swings may help balance out risk.
Talk to an agent/producer to understand what investments are a good fit for you.
1 Investopedia (May 6, 2017). Web page: The Basics of a 401 (k) Retirement Plan. Retrieved April 27, 2018 from https://www.investopedia.com/articles/retirement/08/401k-info.asp.
2 Internal Revenue Service of the United States (October 19, 2017). Web page: IRS Announces 2018 Pension Plan Limitations; 401(k) Contribution Limit Increases to $18,500 for 2018. Retrieved on April 27, 2018 from https://www.irs.gov/newsroom/irs-announces-2018-pension-plan-limitations-401k-contribution-limit-increases-to-18500-for-2018.
3 Internal Revenue Service of the United States. Web page: Retirement Topics – IRA Contribution Limits. Retrieved on May 1, 2018 from https://www.irs.gov/retirement-plans/plan-participant-employee/retirement-topics-ira-contribution-limits.
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Consult with a professional tax and/or legal advisor before taking any action that may have tax or legal consequences.
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