4 FAQs Regarding an IRA

Independent Retirement Accounts (IRAs) are complicated tax deferred options rarely completely understood by non-tax professionals, but understanding a few common IRA FAQs will help you decide if an IRA is a good option for you. Generally, these are retirement savings accounts designed for individuals who do not have 401k options because their company does not offer this benefit or they are self-employed. In any case, a person can gain similar advantages to a 401k independently through an IRA.

1. How Is an IRA Advantageous Compared to other Saving Options?

In order to encourage individuals to save for their retirement, the IRS offers several benefits to retirement account holders. Primarily, the income received on an IRA is tax-deferred. This means an individual does not have to consistently pay taxes in the years prior to making withdrawals. Earnings in an IRA are not paid out as income during that period of time. Instead, they are reinvested to continually grow the account. The result is a very simple tax model for saving. You do not need to be concerned with the tax implications of your IRA's performance until you withdraw.

2. What Is the Difference between Traditional and Roth IRAs?

The exact tax benefits you receive depend largely on the specific IRA account options you choose. A traditional IRA uses pre-tax dollars at the time of contribution. This means you can deduct the sum you contribute to your account, up to the annual maximum, from your taxable income. This can reduce the amount of taxes you owe in the present. You then pay taxes when you withdraw the money. With a Roth option, there is no immediate tax benefit. Post-tax dollars are contributed. When you withdraw, however, you pay no taxes at that time. It is more advantageous for individuals at a low tax bracket today who anticipate a higher tax burden in the future.

3. What if I Change Jobs?

Your IRA will travel with you if you change jobs. This is even true if you move to a job with a corporate-provided 401k. You can roll over your IRA funds, meaning you can move them into your new 401k account. As long as you move 100 percent of the funds within an allowable period, there is no penalty for the change. The primary exception is moving from a traditional option, where no taxes were paid, to a Roth option, where post-tax dollars are required.

4. What if I Need my Benefits before I Qualify?

You always have the option of withdrawing from your IRA prior to your qualified retirement age of 59 1/2. If you do, you will pay a 10 percent penalty. There is no exception to this rule. In some scenarios, you may be able to take a loan against your IRA sum in order to gain immediately liquidity in a time of need. One of the drawbacks of an IRA is that it does not offer loan benefits as extensive as those available through 401k accounts. Withdrawing from a 401k or IRA prior to the qualifying age is not recommended, but it can be considered in an emergency situation.