Monday, January 20, 2014

IRA a good investment, especially for young workers

Kathleen Pender for SF Gate writes: You've graduated from high school or college, gotten a job, signed up for health insurance. Now it's time for that next rite of passage: opening your first Individual Retirement Account.
If you earned any money in 2013 - from a job or self-employment - you have until April 15 to open and contribute to an IRA for 2013. You can also make a contribution for 2014, assuming you will have earnings this year, any time through April 15 of next year.
The best time to open an IRA is when you are young, but the process can seem daunting. First-timers have three tough decisions to make: Whether to open a Roth or regular IRA, where to open it and what to put in it.
Here are some tips to simplify the decision.
An IRA is not a specific investment. Think of it as an envelope into which you can place almost any type of investment including certificates of deposits, stocks, bonds or mutual funds. The envelope gives the investment a tax break that you wouldn't get in a regular taxable account.
There are two types:
With a traditional IRA, you can deduct your contribution from your taxes, unless you are contributing to a 401(k) or similar plan at work, in which case your contribution might not be deductible if your income is too high. (For limits see
You won't pay any tax on the account until you begin withdrawing money. At that point, every dollar you take out - including your original contribution plus whatever it has earned from interest, dividends and capital gains - is taxed as ordinary income, at the same rate you would pay on income from a job.
If you withdraw money before reaching age 59.5, in addition to paying income tax on the withdrawal you will pay a 10 percent penalty unless it's used for a short list of things including certain medical or college expenses or a first home.
With a Roth IRA, you get no tax deduction for money you put in, so you won't realize any immediate tax savings. The benefit comes later: When you take the money out, it will be totally tax free as long as you meet certain requirements.
Unlike a regular IRA, with a Roth IRA you can withdraw the amount you contributed tax and penalty free, at any time for any reason. That makes it a good option for young people worried about tying their money up for decades.
Once you turn 59.5, your earnings can also come out tax and penalty free as long as it has been at least five years since you started making contributions. If you withdraw earnings before that time, the earnings portion will be subject to tax and a penalty unless exceptions apply.

Young = Roth

IRA expert Ed Slott says the Roth is almost always better for young people (unless they make too much to contribute) because of the large amounts of money you can accumulate tax free over a lifetime.
You cannot contribute to a Roth IRA for 2013 if your modified adjusted gross income is greater than $127,000 (single) or $188,000 (married filing jointly.) The income limits for 2014 are $129,000 and $191,000, respectively.
"Young equals Roth," he says. "The power of a Roth is the compounding over time. Young people have more time than anyone else and they should capitalize on it with a Roth. To put money in a traditional IRA is just building a savings account for the government."
For 2013, the most you can contribute to all of your traditional and Roth IRAs combined is the lesser of your taxable compensation or $5,500 ($6,500 if you are 50 or older). The limit is the same for 2014.
Another benefit of a Roth is that you will not have to begin taking mandatory distributions when you turn 70.5, like you do with a traditional IRA.
What if you have a 401(k) at work?
If your employer offers a matching contribution, contribute to that first, up to the amount needed to get the maximum match.
If you can save more, put it into a Roth IRA, Slott says.


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