Funding an IRA With Your Lunch Money

Crafting the next best social media post. Paying rent. Deciphering a text message. Ah man, living the millennial life is tough. As we make time to organize our next trip to Vegas or contemplate the best filter to use on Instagram, we should also make time to plan for retirement. Yes, retirement! As a young professional and college grad, you might think: “I already contribute to my 401(k) with an employer match. D-u-n, done.” You’re on the right track, but you can save (even) more and plan for (an ever more) decent retirement by funding a Roth IRA, alongside your employer-matched 401(k).

When it comes to a Roth IRA, financial ignorance is not bliss, and your future deserves better. Take a break from Flappy Bird and Tinder on your iPhone to learn the basics and why, as a member of the millennial society, you should set up a tax-free retirement, a.k.a. the Roth IRA.

Roth IRA vs. Traditional IRA/401(k)

The major difference between a Roth IRA and a traditional IRA is how tax is handled. One of the main advantages of a Roth IRA is that withdrawals are tax-free, without penalty, and can be done at any time. Its con is that contributions are not tax-deductible (cannot write them off on your tax return). The tax break is postponed and enjoyed later on in life, at retirement. On the reverse, money contributed to a traditional IRA, or 401(k), is pretaxed dollars, yet withdrawals are taxed at the highest ordinary income rate.

What does pretax mean? Pretax is money taken from a paycheck before tax deductions. If you take home a $1,000 paycheck and contribute $100 to your 401(k), $100 will go into your account, and then the remaining $900 is taxed. You’re lowering how much of your income you have to pay taxes on.

Keep in mind, traditional IRA contributions may be tax-deductible (you can write them off on your tax return) and the retirement savings grow tax-deferred (funds aren’t taxed until withdrawn).

Think of a Roth IRA as a valuable tax break made at the back-end, rather than the front-end, explains Forbes contributor Ashlea Ebeling. Since your income will likely be higher by retirement, your tax rate will also be higher, and yet your Roth IRA withdrawal will be free of tax.

Why Roth IRAs Matter

Now that you can distinguish a Roth IRA from a traditional IRA or 401(k), here’s why the former deserves your attention.

  • Roth IRAs are flexible. If you need cash in an emergency, you can take money out of a Roth IRA without taxes or penalties at any time.
  • Be expected to get hit with a 10 percent penalty and ordinary income taxes if you withdraw money early from a pretax IRA.
  • If you’re doubling your Roth IRA as an emergency fund, you can withdraw contributions without a penalty, but not earnings.
  • You don’t have to tell the IRS about Roth contributions or interest made, just like a savings account.
  • As long as earned, adjusted gross income is less than $114,000 for single taxpayers or $181,000 for married taxpayers, you’re eligible to contribute to a Roth IRA in 2014. You can contribute $5,500 person.

Feel ready to open a Roth IRA?

  • You can still fund an IRA for 2013 with a contribution made by April 15.
  • You also can file early with a 1040 and have your refund deposited by the IRS into a 2013 IRA.
  • Do your homework! That 4g coverage is good for more than checking Facebook. Download the app Retirement Planner and actually turn your iPhone into a useful life tool. Compare traditional IRAs and 401(k)s to a Roth IRA, and see if your savings are on track.

Have any questions? Let us know in the comments below!


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This Post Has 3 Comments

  1. Hello, would you mind if I printed multiple copies of this article for a jail program I volunteer with? The inmates had questions about 401Ks, investments, insurance, etc. Your article is nicely written in plain English. Thank you so much

  2. The statement, “One of the main advantages of a Roth IRA is that withdrawals are tax-free, without penalty, and can be done at any time.” is misleading (paragraph #3, sentence #2). It is true only if the withdrawals are done for specifically allowed reasons; allowed withdrawal amounts can also be limited, even for allowed reasons; and it is true only if no earnings are withdrawn, only contributions.

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