Your parents aren’t the only ones who should be thinking about how to retire in style. It might seem premature, but the time to bulk up your own retirement savings is now, when you’re young and there’s lots of time for your money to grow.
Opening a Roth IRA (for individual retirement account) is a key way to get in good financial shape. You’ll see a much higher return on your contributions than if you simply saved money in a bank account.
YOUR GUIDE TO ROTH IRAs:
- Roth IRA: What It Is and Why You Need It
- What Can I Do With My Roth IRA Money?
- How to Open a Roth IRA
Where does my Roth IRA money go?
Your contributions won’t just sit there earning meager interest like they would in a traditional savings account. When you choose an IRA provider, you’ll also decide how to invest your money to make it grow. You can invest Roth IRA money in stocks, bonds, real estate or mutual funds, which are preassembled mixtures of investments. Think of a Roth IRA like a basket, says Curt Sheldon, president and lead planner at C.L. Sheldon & Co. in Alexandria, Virginia. “You can invest in just about anything you want to within that basket,” he says.
If you’re brand-new to the market, consider putting your money in index funds, which aim to get you the same return as the overall stock market, or of particular segments of the market. That’s less complicated and less risky than picking individual stocks and bonds. But take your savings goals and risk tolerance into account. If you’re OK with riding out the uncertainty of the stock market, put more of your money in stocks. You can also choose a target-date fund, which changes the makeup of your investments to be less risky as you get closer to retirement.
Most important, try not to watch your funds anxiously as they fluctuate in value. You may lose money some days, or even over a period of years. Keep in mind that investing is a long game, says John Anderson, president and founder of Cypress Wealth Management in Germantown, Tennessee.
“The best thing you can do for your portfolio is leave it alone,” he says. “Set it and, for the most part, forget about it.”
When can I withdraw Roth IRA money?
The best-case scenario is for you to wait until you’re at retirement age before you make use of your well-funded Roth IRA. Financial emergencies may come up, but since your account is earmarked for when you’re older, only dip into it after you’ve exhausted other funding options.
“Don’t do it unless that’s your absolute last resort,” Anderson says.
If you decide to withdraw from your Roth IRA before retirement, you won’t pay taxes if the withdrawal is up to the amount you contributed to the account yourself. But if you’re younger than 59½ and withdraw an amount beyond what you initially contributed — meaning you’re taking out investment earnings — you might have to pay taxes on the earnings. Also, you’ll have to wait at least five years from the time you contributed to withdraw any earnings.
In the event you do have extra to spare, a couple of smart uses for Roth IRA early withdrawals are for your kids’ education expenses or for a down payment on a house.
How will a 401(k) work with my Roth IRA?
If your employer matches your 401(k) contributions, take advantage of that free money by putting in as much of your paycheck as your employer will match. Any extra retirement savings you can spare should go into a Roth IRA, says Curt Sheldon of C.L. Sheldon & Company.
“If your employer offers matching funds, you certainly would not want to give those up,” he says. “After you’ve done that, for a young person, it can make a lot of sense to put money into a Roth IRA.”
Go with a Roth IRA provider that will give you plenty of investment options, so you can get the mix that’s right for you. You can open a Roth IRA with a lump sum or with regular automatic payments from your bank account. A good rule of thumb is to put away 10% to 15% of your income every year if you can. And, of course, as a recent grad, open an account soon — your balance will grow a whole lot faster that way.
“The single best thing they can do is to start, whether it’s with $1 or $1,000,” Sheldon says. “The one thing you can’t make up for in investing is time.”
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