Do you feel like an IRA dummy?
If so, you have company. About a third of Americans have an IRA, and confusion, rather than money, is often what stands in the way of getting started. That’s a shame because IRAs and Roth IRAs are among the easiest ways to turn small savings into giant sums over time. They are much better than bank accounts because the money within IRA accounts, like 401(k) accounts, will grow without being taxed. That’s extremely valuable, so get started by April 17.
THE FIRST STEP: Grab your Social Security number and a checkbook and head to a broker. If you want to stay home, look up a mutual fund company like Vanguard, T. Rowe Price or Fidelity. Tell the representative you want to open an IRA. You will get a one-page form requiring the typical basics: name, address and Social Security number. You will then write a check for any amount between $1 and $5,000. If you are 50 or older you can deposit as much as $6,000. Once you have filled out the form and written the check, you will have an IRA and you will be on your way to turning good intentions into the cozy sum you will need later in life.
WHY OPEN AN IRA: Money inside an IRA doesn’t get taxed while it stays in that account, so it can grow a lot more than if you left it in a savings account that gets taxed every year. Say, for example, that you are 35, are in the 25 percent tax bracket and save $2,000 for retirement. It earns 5 percent annually until you retire at 65. You will end up with about $9,000 in the IRA or a 401(k) at work because those accounts don’t get taxed each year. In the non-IRA account you get taxed and, consequently, end up with about $6,200, and that’s if you earn 5 percent. Remember that savings accounts pay virtually nothing. Avoid them for retirement savings.
WHO CAN OPEN AN IRA OR ROTH? To contribute, you or your spouse had to earn money from a job or a business that tax year. You don’t have to be working if a spouse has been working. But the worker in the family has to have earned enough to cover your deposit. So if you want to put $5,000 into an IRA, but you earned just $2,000, you can deposit only $2,000 that year. But you get a chance to save more every year you or a spouse works, and you should.
You are free to use a tax-deductible IRA if you don’t have a retirement plan at work. If you do have a plan like a 401(k), there are limits on deductible IRAs. Before choosing an IRA type, check rules and income limits at tinyurl.com/ deductionlimits. If you have a plan at work, consider a Roth IRA. You won’t get a deduction, but, like an IRA, money in a Roth doesn’t get taxed year to year. Make sure you meet income limits.
FINDING A BROKER: You don’t need a broker if you are comfortable going directly to a mutual fund company. But if you decide on a broker, you will find some who have offices with people to help you face to face, and others who you contact only online or by telephone. It’s also important to choose a broker or mutual fund company that won’t charge you high fees. Charles Schwab, Scottrade and Fidelity are discount brokers that have a lot of offices. Find rankings for online brokers at tinyurl.com/online brokers.
Skip places that charge you an annual fee, known as a maintenance fee, simply for holding on to your account. If there is a fee, it shouldn’t be more than $25. You want to be able to invest in mutual funds without paying commissions, or what are called “loads.” Vanguard, Fidelity and T. Rowe Price are among firms known for charging low fees, so you get more for your money.
WHERE TO FIND MONEY TO INVEST: It might be sitting right in front of you. When you report on your tax return that you are contributing to a deductible IRA, the government cuts your tax bill. That can mean you get a better refund. And you can use that refund to fund your IRA. Just beware: Your deposit needs to be in the account by April 17.
HOW TO INVEST: After you have deposited your money in an IRA, it’s just going to sit there doing nothing until you choose an investment. So make sure you choose. For investment ideas see www. tinyurl.com/investmentideas.
Gail MarksJarvis is a personal finance columnist for the Chicago Tribune and author of “Saving for Retirement Without Living Like a Pauper or Winning the Lottery.” Readers may send her email at gmarksjarvis(at)tribune.com.