Individual Retirement Accounts (IRA)
An Individual Retirement Account (IRA) is one of the main retirement saving options in addition to employer accounts like 403(b) and 401(k). Unlike those employer-sponsored plans, an IRA is opened and managed by the individual, typically through a bank, credit union, or brokerage.
Types of IRA accounts
There are several kinds of IRA, and the right one depends on how you're paid and how you'd rather be taxed:
- Traditional IRA — contributions are generally tax-deductible in the year you make them, and the money grows tax-deferred. You pay ordinary income tax on withdrawals in retirement.
- Roth IRA — contributions are made with after-tax money, so there's no upfront deduction, but qualified withdrawals in retirement, including all investment growth, are entirely tax-free. Eligibility to contribute phases out above certain income levels.
- SEP IRA (Simplified Employee Pension) — designed for self-employed individuals and small business owners. Only the employer contributes, and the contribution limit is much higher than a Traditional or Roth IRA since it's based on a percentage of income.
- SIMPLE IRA (Savings Incentive Match Plan for Employees) — aimed at small businesses with 100 or fewer employees. Both the employer and employee can contribute, and the employer is generally required to match contributions up to a set percentage.
How much can you contribute?
The IRS sets an annual contribution limit for Traditional and Roth IRAs combined, plus a higher "catch-up" limit once you turn 50. SEP and SIMPLE IRAs have their own, higher limits. These figures are adjusted periodically for inflation, so rather than quote a number that will eventually be out of date, check the IRS's IRA contribution limits page for the current year's exact figures before you contribute.
Early withdrawals and required distributions
Money contributed to a Traditional IRA generally can't be withdrawn before age 59½ without triggering a 10% early withdrawal penalty on top of ordinary income tax, though the IRS allows some exceptions, such as a first-time home purchase, qualified education expenses, or disability. Traditional IRAs are also subject to required minimum distributions (RMDs) starting at age 73, meaning the IRS requires you to begin withdrawing at least a minimum amount each year whether you need the money or not. Roth IRAs, by contrast, have no RMDs during the original owner's lifetime, which is one reason some savers prefer them for long-term, legacy planning.
Choosing what to invest in
Opening an IRA is really opening a tax-advantaged wrapper — you still have to choose what the money inside it is invested in. Conservative savers often start with an IRA CD or IRA savings account, which work like their regular counterparts but are funded through the IRA. They carry little risk, but the returns are limited to the interest rate and may not keep pace with inflation over the long run. Investors saving for a retirement that's still decades away often put a larger share of their IRA into stocks and bonds instead, typically through a brokerage account, since those assets have historically offered higher long-term growth in exchange for more short-term volatility. Many savers use a mix of both: safer holdings like CDs for money they expect to need soon, and growth-oriented investments for the portion with a longer time horizon.