What Are Considered Traditional IRAs?
Traditional IRAs allow anyone with earned income to save for retirement in an efficient, tax-efficient manner, offering two primary advantages: tax deductions and tax-deferred investment growth.
IRA owners have access to an expansive array of investments. Or they can take the easy route with hands-off investing through a robo-advisor that provides expert financial advice at a fraction of what a full-service advisor would charge.
Tax-deferred investment growth
Traditional IRAs provide their main advantage by deferring any growth on investments held within them from being subject to taxes during retirement, especially for individuals who expect their income tax rate to drop as they get older.
Contrary to employer-sponsored retirement plans like 401(k) accounts, Individual Retirement Accounts (IRAs) can be opened by anyone with earned income; this includes self-employed individuals, freelancers and contractors as well as spouses not working who wish to accelerate their own savings by opening traditional IRAs with contributions made from each spouse.
Be mindful that any money withdrawn before age 59 1/2 will be taxed as ordinary income and subject to RMDs (required minimum distributions) which could potentially be taxed. As this could potentially compromise your retirement needs, it’s wise to carefully consider whether a traditional IRA fits with them before making your choice.
Tax-deductible contributions
IRAs can be an ideal way to save for retirement. Their tax-deductibility benefits allow eligible investors to save thousands in taxes each year; however, there may be limitations and income taxes will have to be paid when withdrawing the funds in retirement.
Traditional IRAs offer you access to any interest-generating investments – bonds and mutual funds among them – at a fraction of the cost associated with hiring an external fee-based manager.
Active participants can contribute up to $6,000 annually or their equivalent earned income, whichever is lower. You will need to calculate your modified adjusted gross income (MAGI) in order to see if you can deduct your contributions; self-employed may even be able to deduct their entire contributions tax-free! Any withdrawals prior to age 59 12 are subject to a 10% penalty fee unless used for one of the following:
Access to a variety of investment options
Traditional IRAs provide more investment options than workplace retirement plans do, including mutual funds, individual stocks and real estate investments. You may even consider precious metals or private placement investments; though these options tend to be reserved for more sophisticated investors.
Traditional IRAs not only offer tax deductions for contributions, but also tax-deferred growth – meaning your investments won’t be subject to taxes until retirement is reached – helping your money to grow much faster than it would with taxable brokerage accounts.
As is true of traditional IRA withdrawals, traditional IRA withdrawals are subject to taxes and an early withdrawal penalty of 10% if done prior to age 59 and 1/2. Fortunately, you have the option of delaying RMDs until April 1 of the year following your 72nd birthday under the SECURE Act of 2019.
Tax-free withdrawals in retirement
IRA investors have access to a wide variety of investment opportunities such as stocks, bonds, mutual funds and ETFs. Many also benefit from pre-built portfolios provided by robo-advisors that make creating an IRA portfolio simpler than ever with professional assistance.
Traditional IRAs are tax-deferred investments, meaning you pay no taxes until retirement when withdrawals will incur ordinary income tax rates.
As opposed to employer-sponsored retirement plans like 401(k), traditional IRA contributions can be made even if you already participate in another employer-sponsored plan (like a 401(b). Withdrawals from traditional IRAs are taxed in the same manner as other investments, and withdrawals prior to age 59 1/2 could incur an early withdrawal penalty of 10% (consult IRS rules for more details). It’s therefore wise to plan for how your IRA investments might be taxed during retirement.
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