IRA accounts are one of the most popular ways for Americans to save for retirement. These accounts are synonymous with security and reliability and are used by millions. However, despite their popularity, IRAs are still poorly understood by many and there continues to be some popular misconceptions about these investment vehicles.
Is your retirement strategy falling victim to any of these IRA myths?
1. “I earn too much to use an IRA”
It’s true that the Roth IRA eligibility rules are pretty much set in stone. If you are single and earn more than $132,000 or are married and earn more than $194,000 combined you cannot use a Roth IRA.
However, Traditional IRA accounts are only subject to income limits ($71,000 if you are single and $118,000 if you are married) only if you have a retirement plan through your employer. If you do not have a work retirement plan, you can use the Traditional IRA and receive the tax deduction for your contributions, no matter how much you make.
Even if you do have a retirement plan through your job and earn more than the Traditional IRA income limits, you can still contribute to a Traditional IRA, however, you won’t receive a tax deduction. Some people in this situation may find it still makes sense to use the Traditional IRA, even without the tax deduction, because investments in the account would grow tax-deferred.
2. “I can’t use an IRA because I already have a 401k”
You are still eligible for a self-directed IRA, even if your employer provides a 401k or some other retirement plan, but the income restrictions still apply. Depending on how much you earn, your work plan may prevent you from receiving a tax deduction for a Traditional IRA (see above for income limits).
3. “I don’t need an IRA because I already have a 401k”
Even if you have a 401k, an IRA could still play a valuable role in your retirement plan. IRAs offer a wider range of investment options and the fees on an IRA could be lower than those on a 401k. Also, with a Roth IRA, you can earn tax-free income in retirement. While some companies offer a Roth 401k, many do not which means you’d owe taxes on your 401k withdrawals during retirement. This isn’t to say you shouldn’t use your 401k, just remember that a good retirement plan takes advantage of multiple investment types.
4. “I can only invest my IRA in stocks and bonds”
Not true. While most brokerage firms limit client investments to traditional assets like stocks, bonds, and mutual funds, the IRS actually allows a much wider array of investments through IRAs. Alternative assets for IRAs include real estate, precious metals, and business partnerships, but you need to find a broker that accepts these investments through an account called a self-directed IRA. These accounts work nearly exactly the same as a regular IRA except they allow a wider range of investments. That said, make sure you are working with someone that understands the rules of self-directed IRAs to avoid any IRS penalties.
5. “My money will be locked up in an IRA until I retire”
It’s true that IRAs are designed to de-incentivize account withdrawals until you are at least 59 ½ years, and early withdrawals do incur a 10% tax penalty. However, there are a number of loopholes to this rule. Penalty-free early withdrawals are allowed if you become disabled, if you need to pay higher education expenses for yourself or a family member, or if you have medical bills that exceed 10% of your income. Other scenarios where early withdrawals are accepted include if you are unemployed and need to buy health insurance, if you are buying your first home, and if you need the money to pay back taxes.
In addition, Roth IRAs allow you to take out some or all of your contributions for any reason without a penalty. The penalty only applies when you withdraw investment gains from the Roth IRA.
6. “I can’t move my IRA to a different broker”
If you find yourself unhappy with your investment options or simply find a better option, you are by no means locked in with broker that set up your IRA. At any point, you can transfer your savings to another company and broker through what’s called a “rollover.” You do not have to pay taxes on a rollover because it is not a withdrawal, but simply a transfer between accounts.
Your retirement plan is too important to base on myths. For more information on IRAs, you may also like to know about these 6 investments that are not allowed in a self-directed IRA.
