You probably understand that saving for retirement is important, but you might not know exactly how to get started. Whether you’re able to participate in an employer-sponsored plan or not, contributing to an individual retirement account (IRA) can be a great way to prepare yourself for the future. Check out our beginner’s guide to getting started with an IRA.
Find out now: How much should I save for retirement?
1. Choose the Right Kind of IRA
It’s best to think carefully before you open an IRA because your decision will affect your savings and your tax bill. There are four main types of IRAs to choose from and each one has its own set of benefits. Traditional IRAs offer the opportunity to claim tax deductions since they’re funded with pre-tax dollars. The funds grow tax-deferred, which means that you’ll only pay income tax when you start taking withdrawals at age 59 ½.
If you fall under the income limits set by the IRS, you have the option of opening a Roth IRA account. You can only save after-tax dollars in a Roth fund. You won’t have to pay any taxes on your withdrawals and you can take them without penalty at any age.
Another alternative to the traditional IRA is the SEP-IRA, which is ideal for small business owners and independent contractors. There’s also the SIMPLE IRA. That’s a retirement plan that owners of small businesses can set up for their employees and contribute to on their behalf.
When you’re ready to open your account, be prepared to submit some personal information and choose beneficiaries. You can start an IRA at a bank or contact a broker, a mutual fund company or a representative from an automated investing company.
Related Article: Which Type of IRA is Right For You?
2. Make Room in Your Budget for Savings
Once you open your IRA, you can identify where your savings will come from. Reviewing your budget and your savings strategies will show you whether you need to move some money around or cut your spending in certain areas. You can make direct contributions to your retirement account or roll over an old employer-sponsored account. If you choose to roll over one of your plans, it’s a good idea to aim for a direct rollover so you don’t have to pay additional taxes or get hit with a penalty.
3. Fund Your IRA
After you’ve decided that you want to make saving a priority, you’ll need to think about how much you want to invest. The size of your contributions will depend on the amount you need to save in order to live comfortably once you stop working. But keep in mind that there are contribution limits. For 2015 and 2016, you can’t contribute more than $5,500 ($6,500 if you’re over the age of 49) or more than your total amount of taxable income if it falls below the IRS threshold.
Maximum contributions to SEP-IRAs cannot exceed the lesser of 25% of your compensation or $53,000. If you have a SIMPLE IRA, you cannot contribute more than $12,500.
Related Article: What is a SEP IRA?
Opening an IRA isn’t as intimidating as you might think it is. It’s an important step toward a secure future and it can help you build some serious wealth if you take the time to learn and follow best practices. Remember, the sooner you start saving, the better.
If you’re not sure where to start when it comes to saving for retirement, a financial advisor can help you. Financial advisors will evaluate your full financial situation and make tailored recommendations. A matching tool like SmartAsset’s SmartAdvisor can help you find a person to work with to meet your needs. First you’ll answer a series of questions about your situation and goals. Then the program will narrow down your options from thousands of advisors to up to three registered investment advisors who suit your needs. You can then read their profiles to learn more about them, interview them on the phone or in person and choose who to work with in the future. This allows you to find a good fit while the program does much of the hard work for you.
Photo credit: ©iStock.com/AlexValent, ©iStock.com/bernie_photo, ©iStock.com/nandyphotos