A traditional IRA, or individual retirement account, is one the best financial programs you can use to save for retirement. It is a tax-deferred account that allows you to defer paying taxes on dividends, interest, or capital gains until you withdraw. You also might be eligible to deduct the contribution amount from your taxes.
Let's look at an example that focuses on the growth in a taxable vs a tax deferred (IRA) account. In a taxable account you invest $100,000 in a stock with an annual dividend of 5%. After one year, you will have $103,750 ($5,000 dividend - $1,250 for taxes at 25% rate). However, if the investment was placed in a traditional IRA, you would have $105,000 since you deferred the taxes. Here is where it gets interesting due to compound interest; over the course of 30 years, at the 5% dividend rate with reinvestment, you will have $301,747 in the taxable account (after paying taxes) and $432,194 in the IRA (before withdrawing and paying taxes). Once you withdraw from your IRA, you'll need to pay taxes on the total amount, ending up with $324,145, or $22,398 more in the IRA vs the taxable account.
Now that you understand the power of a traditional IRA, it is important to know the limits and requirements.
The Traditional IRA Overview
- The IRA contribution limit for 2019 is $6,000, or $7,000 if you’re 50 or older.
- You are able to deduct the amount from your taxes for the year the contribution was made. Please see below for eligibility requirements.
- If you (or your spouse) earn taxable income and are under age 70 ½, you can contribute.
- At 70 ½ you must start making withdrawals, and this amount will be included in your adjusted gross income.
- If you are phased out of the deduction, see below, you can still contribute without the deduction and defer the taxes on the gains.
The Pros and Cons of a Traditional IRA
data source: nerdwallet.com
Income Limits for Traditional IRA
|Filing status||Full deduction if modified AGI is ...||Partial deduction if modified AGI is ...||No deduction if modified AGI is ...|
|Married filing jointly and you're covered by retirement plan at work||2018: $101,000 or less|
2019: $103,000 or less
|2018: More than $101,000 but less than $121,000|
2019: More than $103,000 but less than $123,000
|2018: $121,000 or more
2019: $123,000 or more
|Married filing jointly and your spouse is covered by a retirement plan at work||2018: $189,000 or less|
2019: $193,000 or less
|2018: More than $189,000 but less than $199,000|
2019: More than $193,000 but less than $203,000
|2018: $199,000 or more
2019: $203,000 or more
|Single or head of household||2018: $63,000 or less|
2019: $64,000 or less
|2018: More than $63,000 but less than $73,000|
2019: More than $64,000 but less than $74,000
|2018: $73,000 or more
2019: $74,000 or more
|Married filing separately and you or your spouse is covered by a retirement plan at work||2018: Not available|
2019: Not available
|2018: Less than $10,000|
2019: Less than $10,000
|2018: $10,000 or more
2019: $10,000 or more
data source: nerdwallet.com
Planning or In Retirement?
Get Your Retirement Readiness Score
Our digital service takes retirement planning beyond finances so you have healthy, happy, and fulfilled retirement. Get started on your retirement plan for Free: Your Retirement Plan.