What is an IRA?
An Individual Retirement Account (IRA) is an investment account designed for building retirement savings, apart from a workplace 401(k). There are several types — traditional IRAs, Roth IRAs, SEP IRAs, SIMPLE IRAs — but all offer tax benefits that reward you for saving.
What are the benefits of an IRA?
Both of the primary varieties of IRAs — the traditional IRA and the Roth IRA — allow you to save $6,000 per year ($7,000 if you’re 50 or older), even if you’re also contributing to a 401(k) or other workplace savings plan. (Note: Those limits are up from $5,500 and $6,500 in 2018.)
With a traditional IRA, contributions are tax-deductible up to IRS limits, and you won’t owe income taxes until you withdraw the funds. With a Roth IRA, contributions are not tax-deductible, but unlike with a traditional IRA, your investments grow tax-free and you can withdraw money tax-free in retirement from a Roth.
Both traditional IRA and Roth IRA accounts are available from online brokers and from banks, but the types of investments you’ll have access to within your IRA will vary depending on the provider. With a bank IRA, you’ll likely find savings-type vehicles, such as certificates of deposit. With a broker, you’ll be able to invest in stocks and bonds, which offer much higher average returns. (Don’t worry if you’re new to this realm. See how to invest your IRA for some simple investment tips.)
There are other types of IRAs, with a variety of benefits in different situations. For example, SEP IRAs can help self-employed people ramp up their retirement savings, while spousal IRAs are ideal for married couples where one spouse doesn’t work for pay. Read on for more details on a variety of IRA types.
How to choose the right IRA
First things first: Not everyone is eligible for all the perks of traditional and Roth IRAs.
Your income level will determine whether you’re allowed to contribute to a Roth IRA. Anyone — regardless of income — can contribute to a traditional IRA. But the amount of your traditional IRA contribution that you can deduct from your taxes may be limited by your income if you or your spouse has access to a retirement plan at work.
In addition to eligibility rules, here are some considerations to help you decide between them:
With a traditional IRA, generally you can deduct the amount of your contributions on your tax return, and your money grows tax-deferred — that is, you won’t owe income taxes until you withdraw the money from your account. But if you (or your spouse) has a retirement plan at work, then check out the deduction limits:
If you’re eager to get a tax break today versus one in retirement, a traditional IRA may be a good choice. What’s the advantage? Perhaps you’re subject to a high tax bracket today and expect to be in a lower tax rate in retirement. Or maybe the upfront tax break is what attracted you to IRAs in the first place.
Keep in mind that to avoid a withdrawal penalty when taking money out of a traditional IRA, you'll need to be age 59 ½ or meet some specific requirements — see traditional IRA withdrawals for details.
If you’ve got the willpower to wait to get your tax break, the Roth can be an especially attractive option. With a Roth IRA, contributions are not tax-deductible, but your money grows tax-free — you never owe taxes on the investment gains in your account — and you can withdraw money tax-free in retirement.
While you can’t deduct Roth contributions from your taxable income while you’re saving, in retirement your Roth withdrawals are not taxed at all. That goes for contributions and investment earnings. (With a traditional IRA, you pay taxes on both your contributions and earnings when you withdraw money.)
The Roth comes with another big perk: You can take out money you contributed to a Roth IRA at any time without penalty. But there are rules about early withdrawals of investment earnings and other transferred funds — see Roth IRA withdrawals for details.
There are income limits that prevent higher earners from contributing to Roths. (However, in that situation, a backdoor Roth IRA is another option — more on that below). Here are the latest Roth IRA contribution limits:
Other types of IRAs
While traditional and Roth IRAs are the primary varieties, there are other types of IRAs that might be a better fit for your situation.
Opening your IRA
Before choosing an IRA provider, ask yourself how involved you want to be in the management of your investments:
If you want to choose investments for yourself, an online brokerage is a good way to go. Review our best IRA accounts to compare.
If you want help managing your retirement account, consider a robo-advisor — a service that selects low-cost and risk-appropriate investments for you. See our list of best robo-advisors for help choosing the right one for you.
Once you have chosen a provider, the online signup process for an IRA is pretty simple: You'll be asked to provide some general information, including Social Security number, birthdate, contact information and employment details. See our guide to opening an IRA for more information on moving money into your account.