What is a Traditional IRA?

Margo Upson
Margo Upson

Traditional IRAs are a way to save for retirement. IRAs, or individual retirement accounts, provide tax advantages when setting money aside to fund expenses for after you leave the work force. The money is either saved, with interest, or can be invested in real estate, stocks, or other areas.

There are many reasons to use a traditional IRA instead of other types of IRA.
There are many reasons to use a traditional IRA instead of other types of IRA.

The most common way to get a traditional IRA is to take advantage of the retirement program that most employers have. In these plans, money is deducted from your paycheck before taxes are figured, and put into your IRA account. Most employers will match this amount, at least partially. A common amount for companies to contribute is 3% of your total pay. Traditional IRAs are also available through many banks, brokerage firms, and other financial institutions.

Contributions to a traditional IRA account cannot exceed $5,000 US dollars (USD) per year, or 100% of your total income, whichever is less. Contributions to a joint account, for a married couple, cannot exceed $10,000 USD. For those over 50 years of age, the limit is $6,000 USD. These amounts continue to rise to compensate for inflation. Yearly contributions can only be made between the first of the year and the tax deadline of April 15th.

Once money is in an IRA, it can be used to invest. Different financial institutions allow for different types of investments. For example, a bank may allow Certificates of Deposit, and a brokerage may allow for investment in mutual funds or annuities. Money in an IRA account earns interest and dividends, along with any gains seen from investments.

The earliest that money from a traditional IRA can be taken out without penalty is at 59 ½ years of age. Before this, there is a 10% penalty for all withdrawals. Unlike other types of IRA’s, the recipient must begin regular withdrawals before reaching 70 ½ years of age. If they fail to do this, half of the mandatory amount will be seized by the IRS.

There are many reasons why one might choose a traditional IRA over other types. If there is a chance that you will be in a lower tax bracket after retirement, a traditional IRA can save you money, because the money is not taxed until it is removed. Also, there is a chance that the government will choose to tax all IRAs upon withdrawal in the future, which will not affect traditional IRAs that are already being taxed. Another advantage is that, for most, contributions to these IRAs are tax-deductible.

It is estimated that retirees will require 70% of their regular income to live comfortably in retirement. For that reason, it is important to start contributing to an IRA as early as possible. Discussing your options for IRA accounts and investments will give you an accurate idea of what options will best meet your needs.

Margo Upson
Margo Upson

Margo has a varied academic background, which has involved everything from psychology and culinary arts to criminal justice and education. These wide-ranging interests make her an ideal wiseGEEK writer, as she always enjoys becoming an expert on new and unfamiliar topics.

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