Though not all workers have access to a 401(k), anyone who earns an income is eligible to contribute to an individual retirement account, or IRA. And it pays to fund an IRA for a number of reasons, the most pressing being that without independent savings, you're likely to struggle to pay the bills in retirement. Furthermore, because IRAs offer a number of tax benefits, they're a more efficient means of saving than a traditional bank or brokerage account.
Unfortunately, less than one-third of Americans today are contributing to an IRA, and for a host of reasons that hardly hold water. Such is the result of a TIAA survey, which found that workers are making the following bad excuses for not funding IRAs:
- Not understanding how IRAs function (28%).
- Feeling that IRAs are too complicated (17%).
- Not having enough money to contribute (46%).
So let's debunk these justifications and help countless Americans get back on track, shall we?
IMAGE SOURCE: GETTY IMAGES.
How IRAs function
If you're avoiding an IRA because you don't understand the how's behind it, here's a basic rundown. IRAs come in two main varieties: traditional and Roth. With the former, the money you contribute goes in tax-free, but withdrawals are taxed in retirement. With the latter, contributions don't give you an immediate tax break, but your withdrawals are yours free and clear of taxes during your golden years.
Both accounts have the same annual contribution limit: $5,500 for workers under 50, and $6,500 for those 50 and over. But whereas you can fund a traditional IRA regardless of how much you earn, Roth IRAs impose annual income limits so that if you make too much, you can't fund one directly. You can, however, put money into a traditional IRA and convert that account to a Roth later on.
The simplest way to manage your IRA
Since complexity is a sizable barrier to funding an IRA, let's see if we can clear the air. Managing an IRA is fairly simple. Once you fund your account, you get the option to choose how to invest your money. You can play it safe and stick mostly with bonds, but that will inhibit your account's growth over time. You could go heavy on individual stocks if you're willing to take on that risk, and that'll most likely result in sizable growth -- but perhaps keep you awake at night.
The ideal approach, assuming you're coming from a place of knowing little to nothing about investing, may therefore be to go heavy on index funds, which not only offer some of the lowest fees out there, but are also a good way to diversify your holdings while capitalizing on long-term market growth. This is an especially wise approach if you don't have the time, patience, or capacity to research individual stocks.
Making the most of your contributions
Now let's discuss what appears to be the single greatest excuse for not funding an IRA: not having the money to do so. While it's true that many workers live paycheck to paycheck, and therefore don't have a ton of money to play with, most of those folks do have the option to rethink their budgets and start cutting corners to free up cash. Remember, just because you're allowed to contribute up to $5,500 a year to an IRA doesn't mean you have to start out hitting that limit. In fact, nearly 20% of folks who save in an IRA contribute less than $250 each year. The key is to start saving some amount of money each month and aim to ramp up over time.
Not convinced? Check out the following table, which shows what a mere $200 a month can get you if you start saving early enough:
If You Start Saving $200 a Month at Age: | Here's What You'll Have by Age 65 (Assumes an 8% Average Annual Return): |
|---|
25 | $622,000 |
30 | $413,000 |
35 | $272,000 |
40 | $175,000 |
45 | $110,000 |
50 | $65,000 |
Data source: author.
The numbers on the right are quite impressive, though less so as we go down that column. That's because the more time you give your money to grow, the more savings you stand to accumulate. The opposite is also true, though -- limit your savings window, and you won't retire with very much.
So there you have it: IRAs aren't all that complicated, can be easy to manage, and can turn relatively modest contributions into sizable sums over time. So if you've been making excuses for why you're not funding yours, it's time to stop talking and start saving. Your retirement depends on it.
FAQs
Earnings can't be withdrawn tax-free until age 59½ and the account is at least 5 years old. Diversification in retirement, so all of your accounts aren't tax-deferred. The maximum contribution is relatively low compared with a 401(k). You'll probably need other accounts to save enough for retirement.
Why can't rich people use Roth IRA? ›
However, those with modified adjusted gross incomes (MAGIs) above certain levels are limited in the amounts they can contribute or are banned from Roth ownership altogether. The income limits are updated annually. Taxpayers with incomes above those top numbers cannot contribute anything to a Roth IRA.
Are IRAs a bad investment? ›
The traditional IRA is one of the best options in the retirement-savings toolbox. You can open a traditional IRA at a bank or a brokerage, and the universe of investments is wide open to you. But with that freedom comes responsibility. Traditional IRAs have a lot of rules — break one and you could face a penalty.
What percent of Americans have Roth IRA? ›
Unfortunately, many Americans are missing out on an important way to save for retirement by not taking advantage of Roth individual retirement accounts (IRAs). According to research by the Investment Company Institute, just 24.6% of U.S. households -- or 32.3 million -- contributed to a Roth IRA in 2022.
What is the downside of an IRA? ›
IMPORTANT NOTE: You cannot borrow against your IRA account as you can with a 401(k) plan. You also cannot use the account to secure a loan. IMPORTANT NOTE: Unlike qualified retirement plans, the money you have in an IRA may not necessarily be protected from your creditors.
What is the negative of a Roth IRA? ›
One disadvantage of the Roth IRA is that you can't contribute to one if you make too much money. The limits are based on your modified adjusted gross income (MAGI) and tax filing status.
How does Peter Thiel have 5 billion in Roth IRA? ›
According to ProPublica, Thiel was able to build a $2,000 Roth into a $5 billion tax-free kitty because he used the money in the account from the sale of eBay shares to buy shares of other startups at low prices.
Why do financial advisors push Roth IRA? ›
THE FINANCIAL SERVICES INDUSTRY HAS OTHER INCENTIVES TO PROMOTE ROTH IRAs. The other incentive financial advisors have to promote Roth IRAs is that most of them make their money via Assets Under Management (AUM). This means that their fee is paid by a percentage of the investments they manage for you.
What is the rich man's Roth? ›
Proactive tax planning and one highlighted strategy is the "Rich Person Roth," which utilizes cash value life insurance to unlock tax-free income in retirement potentially. High earners in states with high taxes often find it challenging to contribute to a Roth IRA due to income restrictions.
What is the risk with IRAs? ›
IRAs sometimes have early withdrawal penalties
But if your early withdrawal exceeds your contributions and you take out earnings, or if you had previously completed a Roth conversion, you may be subject to taxes and a 10% penalty when you file your taxes with the IRS.
A recession could result in a lower IRA balance, but that's not guaranteed to happen. If a recession does negatively impact your IRA, your best bet is to do nothing.
Do IRAs ever lose money? ›
Roth IRAs are not 100% safe, but they offer the potential for growth over time. Market fluctuations and early withdrawal penalties can cause a Roth IRA to lose money. Investing late or contributing too much can also result in potential losses.
How many Americans have $300,000 in savings? ›
The poll also found that among those who have been saving for retirement, 6.7% have saved between $10,000 and $49,999, 12.6% have saved between $50,000 and $99,999, 12% have saved between $100,000 and $199,999, 9.9% have saved between $200,000 and $299,999 and 16.5% have saved $300,000 or more.
How much does the average American have in an IRA? ›
Americans have, on average, six-figure balances in their retirement accounts. Fidelity Investments' Q2 2023 retirement analysis reveals that the average balances in Americans' IRAs, 401(k)s and 403(b)s have hit $113,800, $112,400 and $102,400, respectively, — each one marking an increase for the third quarter in a row.
Why is there a $6,000 limit on Roth IRA? ›
Both traditional and Roth contributions are capped so that higher-paid workers who can afford to defer large amounts of their compensation can't take undue advantage of these tax benefits—at the expense of the U.S. Treasury.
Who shouldn't have a Roth IRA? ›
Here are 5 reasons why you should NOT open a Roth IRA:
- You have no earned income. ...
- You have too much earned income. ...
- You need the money soon. ...
- Your beneficiary is a charity. ...
- You just don't trust the government to keep its tax-free promise.
Roth IRAs grow through compounding, even during years when you can't make a contribution. There are no required minimum distributions (RMDs), so you can leave your money alone to keep growing if you don't need it.
How much will a Roth IRA grow in 10 years? ›
Let's say you open a Roth IRA and contribute the maximum amount each year. If the base contribution limit remains at $7,000 per year, you'd amass over $100,000 (assuming a 8.77% annual growth rate) after 10 years. After 30 years, you would accumulate over $900,000.
