A Quick Guide To Understanding Your Individual Retirement Account

It's never too early to begin preparing for your retirement and one of the best ways to prepare is to set up an Individual Retirement Account (often referred to as an IRA).

The purpose of an IRA is to serve as a personal tax-qualified retirement savings plan. Anyone who works, whether as an employee or self-employed, can set aside a set amount in an IRA, with the earnings on these investments tax-deferred until the date of distribution. In addition, certain individuals are permitted to deduct all or part of their contributions to the IRA. Plus, as of 1998, certain individuals can also set up Roth IRAs, to which contributions are not deductible, but from which withdrawals at retirement won't be taxed.

It doesn't take much to set up an IRA. The trustee (or custodian) can be a bank, mutual fund, brokerage house or other financial institution. You cannot be your own trustee. An IRA can be established and a contribution made after year-end, no later than the due date for filing the income tax return for that year, not including extensions. This generally means that you have until April 15th of the following year to make the contribution and deduct it on your tax return.

The most you can contribute to an IRA in any single year (as of 2006) is the smaller of $4,000 or an amount equal to the compensation includible in income for the year. Those 50 years old and above will also be allowed to make additional $1,000 catch-up contributions to an IRA each year to help them save more for retirement.

The same limit applies even if you have more than one IRA, or more than one type of IRA. When both you and your spouse have compensation, you can each contribute the maximum, which means $8,000 total ($10,000 if you are both 50 or over). In 2008, IRA contribution limits will be raised to $5,000, while the catch up contribution for those 50 years old and above will remain at $1,000.

You do not have to contribute the full amount allowed every year. You may skip a year or even several years. You may resume making contributions in any subsequent year, but you cannot add additional funds to make up for those years when no contribution was made.

Contributions must be from compensation. This can be from wages, salaries, commissions and other sources of earned income. Contributions do not include such things as deferred compensations, retirement payments, or portfolio income from interest or dividends.

You can contribute more than the allowable amount, however, a 6 percent excise tax penalty will be assessed.

No contributions may be made to an inherited IRA, in a form other than cash, or during or after the year in which the individual reaches age 70.5.

You must begin taking distributions from an IRA no later than April 1st of the year following the year in which you reach age 70.5, or the year in which you retire, whichever is later.

This is a quick and general overview of IRAs. The rules are slightly different for Roth IRAs, which have their own contribution and distribution limitations. Before setting up an IRA, take the time to talk to your banker, accountant, or financial advisor to make sure you have a firm grasp on your options and set up the IRA which best serves your personal needs.

You can learn more about IRAs online from the Internal Revenue Service here: http://www.irs.gov/taxtopics/tc451.html

You Can Do What With Your IRA!?

Copyright 2006 Damon Clifford

Everyone knows you can invest in stocks, bonds, and mutual funds with your IRA.  About 97% of the trillions of dollars of IRA funds are invested in these types of assets.  Did you know you can also invest your IRA funds into non-traditional assets like real estate, energy, and tax liens?

What!?

Yes, you can invest your IRA funds into a house, a duplex, or a commercial building along with many other non-traditional assets.  A lot of people are choosing these types of investments to better diversify their retirement portfolio.  These are the people that don’t want to see their portfolio rise and fall dramatically due to stock market fluctuations.

Any good broker will tell you to keep your portfolio diversified with many different stocks, bonds, and mutual funds.  More savvy investors say to keep your portfolio diversified with many different assets such as stocks, bonds, mutual funds, energy & real estate.  Some of their portfolio’s actually increased during the most recent bear market!  This was due to their portfolio’s being truly diversified.

There are two main reasons that more and more people are choosing to invest a portion of their IRA funds in non-traditional assets.  First, they don’t know or trust the stock market since it has performed poorly the last couple of years, and nobody can predict what the market will do over the next 5, 10, or 20 years.  Second, they may or may not know what certain companies are doing on the other side of the country, but they do know about that “hot” piece of property just around the corner that would be a great rental house!

One of the added benefits to a self directed IRA is investing in assets that you know, and understand.  The more you know and understand, the better judgment you can make in your own investments.

Once the self directed IRA is set up, you have investment control of the funds. You can use the funds to purchase the house and the income from rent will go back into your IRA. If you decide to sell the house, the capital gains from the sell will go back into your IRA as well. Depending on the type of IRA you have your gains can be either taxed deferred or tax free!

With the self directed IRA, you are in control. Many people are using the self directed IRA to take control of their retirement investments.

Stocks, bonds, and mutual funds still need to be in your portfolio to be diversified, but it’s important to understand that you do have choices outside the stock market!