Dear Young and Wondering Why a Roth IRA is a My Favorite of Mine,
So, you are about to start your first job, or perhaps, you have already started. Have you begun thinking about your retirement? If you are not, you should be.
Have you started saving toward retirement? If yes, you are ahead of millions of Americans who have no retirement savings at all!
Luckily for you, if you are in your twenties or younger, and earning your first paycheck, this is the very best time to start thinking about retirement. If you start working on it, and other parts of your personal finances early, you can retire well! Today, I am going to talk to you about one of my favorite retirement accounts that will help.
Some Popular Retirement Accounts (Other than the Roth IRA)
You have probably heard about various retirement accounts. Some that you may have heard of include 401Ks, 403Bs (for state or local government employees), and traditional IRAs.
Your IOUs with The Government
Most retirement accounts create IOUs that you owe the government. You’ll have to pay those IOUs during your retirement years. You may be wondering in what sense you have an IOU with the government. Let me explain. In short, the government wants its taxes eventually, on that money that you have earned. It’s just that they have allowed you to postpone the payments until later.
Let’s take a 401K as an example.
Money that goes into it is pre-tax money. That means that it’s money on which you have not paid taxes. Instead, what you owe on the earnings that have gone into the 401K, is put off until later and becomes an IOU that must be paid down the road. That later time is, by design, supposed to be during your retirement. Now, when the money comes out of the 401K, it is taxed as ordinary income. This means that you will be taxed at whatever your tax rate is during your retirement, when it is withdrawn. Note: You will definitely be withdrawing the money, because, with 401Ks, there are RMDs, which are Required Minimum Distributions, that start at age 72 or later, based on the year you are born.
Retirement Years
In short, during your retirement years, when it comes to 401K withdrawals, the government is coming for their money. While I may not be able to pay zero taxes during my retirement, I would like to pay the minimum possible, as that is a time in life when it will most likely be harder to earn new money needed to live my best life. It is for this reason that 401Ks (and the like) are not my favorite retirement accounts.
Let me clarify and state that I am not saying that I would not put any money into a 401K (or similar retirement plans). I would, but there is a caveat.
Some employers will match a percentage of what you put into your 401K. This is money that is over and above your salary. So, it adds to your total compensation package. For instance, if an employer says that they will match your contribution dollar for dollar, up to 3%, that means that if you make a $25,000 salary, they will match every dollar that you contribute, up to 3% of that $25,000. In this case, contributing 3% of your salary, would be contributing $750, and your employer would contribute $750. I wouldn’t miss out on this free money. That is a 100% profit on your contribution. But, the caveat is that I would put the exact amount of money into these pre-tax saving accounts that I would need to get the maximum employer match, not a penny more.
Introducing the Roth IRA and Why a Roth IRA is One of My Favorite Retirement Accounts
A retirement account that I love is the Roth IRA. They function independent of employers. So, anyone can start one, as long as the money contributed comes from being employed. In contrast to the above mentioned retirement accounts, the Roth IRA is a retirement account in which you contribute post-tax. But, then your money grows tax-free. Even when you pull the money out during retirement, you will not pay taxes on the money. In fact, if you do not need to spend the money, you will never be required to take it out. (There are no RMDs!) So, if you start investing in a Roth when you are young, your money gets to grow tax free for decades and decades, and you can then withdraw the money tax free!
This Roth IRA is powerful stuff!
If you invest the maximum each year (which is $6500 a year in 2023), you will likely be a Roth IRA millionaire. In fact, investing in a Roth is so powerful, the government put an income limit on them. If you make more than $138,000 as a single person or head of household, or $228,000, if you are married filing jointly, you can no longer contribute to a Roth. This is the second reason why you should invest in a Roth while you are young, because it is when most people are less likely to hit the income limits. But, the most important reason that you should start investing in a Roth IRA today is time. The earlier you start investing, the more time your tax-free earnings in the account have to grow.
So Now You Know Why a Roth IRA is One of My Favorite Retirement Accounts, But Keep In Mind…
No matter which type of IRA (or similar retirement accounts) that you want to open, you need to have taxable earnings, such as salaries and wages, and self-employment income (including commissions). Some income that does not count as taxable earnings for retirement account purposes include: interest and dividend income, income from and profits from rental properties, pensions, or annuity income. There is one income exception. An unemployed spouse, who files a joint tax return with an employed spouse, can open a spousal IRA.
Key Takeaways:
I love Roth IRAs because they allow for tax free growth. If started while young, you can become a Roth millionaire, and never have to pay taxes on that money when you withdraw it during retirement.
The most important thing to remember is that you can only get rich by spending far less than you make, and using the difference to invest in assets, which will pay you more money. That money being tax free magnifies your investing efforts. That is the absolute best!
Hoping That If You Don’t Have a Retirement Account, You Start one Today,
Rich Mom
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Who is Rich Mom?
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Also, please note: I am not an investment advisor. Always do your own due diligence and research before investing (no matter who is giving the advise.) Check with your own investment advisor.
The information shared here is not intended as financial advice, just encouragement.