What Type of IRA is Pre-Tax?
Selecting an Individual Retirement Account (IRA) that best matches your goals and future trajectory depends on your own unique set of circumstances. When making this important decision, be sure to compare fees, commissions and minimum investment requirements before settling on an IRA provider.
IRAs allow you to save for retirement before taxes are withheld, and offer flexibility in investment options. However, if your workplace offers a 401(k), prioritizing contributions could be the better choice.
Taxes
IRAs are financial accounts with tax-friendly characteristics that provide special privileges when it comes to distributions. When receiving one from either your spouse or parent, there are options that can help mitigate risk and lower tax brackets when taking distributions from an IRA. A knowledgeable tax attorney or financial advisor can guide you through all of this complex taxation of an IRA account.
Traditional IRAs allow you to claim tax-deferred contributions made with pre-tax income; taxes will then be due upon withdrawing funds at regular income rates. On the other hand, Roth IRAs require after-tax contributions that will incur regular income rates when withdrawing them.
A qualified Thrivent financial advisor can assist in creating a retirement plan that prioritizes tax efficiency. This may involve selecting either traditional or Roth IRA, and exploring ways to reduce the possibility of being forced into higher tax brackets upon withdrawal.
Withdrawals
No matter the account type, withdrawals from any type are taxed as income by the IRS, with some exemptions made for home purchases and medical expenses that qualify. They also penalize owners of IRAs who withdraw funds for non-qualifying reasons.
For example, if you haven’t owned your current home for at least two years, you can withdraw money penalty-free to purchase one. Furthermore, withdrawals made under penalty-free withdrawal rules may also be used for tuition, fees, books and equipment required for enrollment or attendance at qualifying institutions (which typically includes most undergraduate and graduate degrees as well as some vocational courses).
Traditional, SEP or SIMPLE IRA owners must take their first required minimum distribution (RMD) by April 1 of the year following when they turn 70 1/2. RMDs are calculated by dividing your IRA balance as of December 31 of the prior year by your life expectancy; should an RMD go uncollected, an IRS penalty of 50% applies.
Investments
An Individual Retirement Account (IRA) offers tax advantages when saving for retirement. These advantages may include lower taxable income when withdrawing funds in retirement and taxed at a lower rate than would apply if invested outside an IRA.
Mutual funds are among the most popular IRA investments, providing broad diversification. You can also choose individual stocks, rental real estate and precious metals as investments for your IRA portfolio. Bonds offer stability and regular interest payments while collectibles such as artwork, rugs, stamps antiques bullion alcohol are prohibited due to IRS restrictions under their tax code.
Employers or self-employed workers looking for additional retirement contributions can use a Simplified Employee Pension (SEP) or SIMPLE IRA to maximize retirement contributions for employees and themselves. Employers usually contribute an amount equivalent to part of an employee’s compensation as an employer contribution.
Fees
Fees associated with an IRA account can have an enormous effect on its final value. Even small fees that accumulate over years can reduce returns significantly, creating less for retirement savings and decreasing returns over time.
IRAs give investors greater flexibility than employer-sponsored accounts such as 401(k) plans in selecting no- or low-cost investments, making an IRA an appealing option for long-term investing. Before committing to one, investors should carefully assess all their options.
Contributions made using pre-tax dollars reduce your taxable income for the year, but withdrawals in retirement will still incur taxes at their regular rates.
Roth IRAs allow you to make after-tax contributions and withdraw them tax free; however, any investment growth within your Roth IRA may be subject to taxes.
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