An Individual Retirement Arrangement (IRA) is an excellent way to supplement your retirement income, earn tax deferred dividends and, if eligible, qualify for a tax deduction. In this article, we will provide you with the information you need to choose the right type of IRA for you.
What is an IRA?
An Individual Retirement Arrangement (IRA) allows you to save, not only for retirement, but may also be a source of income for certain qualified distributions or unexpected expenses. Examples: disability, first home purchase, health insurance costs, medical expenses, higher education expenses, IRA tax levy, etc.
How Does an IRA Account Work?
It is important to remember that there is no age limit to open an IRA, but you must be eligible to contribute to an IRA, depending on the type. You (or your spouse if filing a joint income tax return) must have earned income from employment. Your annual income is a factor in determining eligibility. The Internal Revenue Service (IRS) sets an annual limit an individual can contribute, not to exceed your annual Modified Adjusted Gross Income (MAGI). You may make a lump sum contribution or make regular contributions anytime throughout the year. The best way to save is to set up automatic transfers or automatic deposits via direct deposit.
An IRA application is completed and gives you the opportunity to designate primary and contingent beneficiaries particularly for your IRA. Beneficiaries can be changed at any time.
Over time, watch your savings grow while you plan for retirement!
Types of IRA Accounts
There are two types of IRAs available at HFS Federal Credit Union – Traditional IRAs and Roth IRAs.
Traditional IRA
A Traditional IRA allows you to save pre-tax income for retirement. Here are some key features of a Traditional IRA:
- Earnings are tax-deferred. You do not pay taxes on dividends earned until you withdraw them.
- If eligible, your contributions are tax-deductible. Non-deductible contributions can be withdrawn tax free and penalty free.
- Withdrawals are subject to Federal income taxes and are subject to an additional 10% early withdrawal tax if withdrawn before age 59 ½, unless you qualify for an exemption.
- At age 72, you are required to take a minimum annual distribution to avoid a tax penalty.
- Transfers can be made directly from a Qualified Retirement Plan (QRP) or another Traditional IRA, tax free.
Roth IRA
A Roth IRA allows you to make contributions with after-tax income. Here are some key features of a Roth IRA:
- Earnings are tax-deferred. You do not pay tax on dividends earned.
- Contributions are non-tax deductible
- Withdrawals of your regular contributions can be made anytime, tax free and penalty free
- If you satisfy the qualified distribution requirements, you can withdraw contributions and earnings tax free and penalty free
- You are not required to withdraw, no matter what your age is
- Transfers can be made directly from another Roth IRA, tax free
- Transfers can be made directly from a Qualified Retirement Plan (QRP) or a Traditional IRA, but are subject to Federal income taxes.
Coverdell Education Savings Account
A Coverdell Education Savings Account can help you save for a child’s education expenses – such as tuition, fees, books, supplies, equipment, and in some cases, room and board. The Internal Revenue Service sets an annual limit a Grantor can contribute, not to exceed their annual Modified Adjusted Gross Income (MAGI).
The Grantor is the individual who opens and funds the account. A designated Responsible Individual has access to the ESA, which could be the Grantor or an additional adult individual. The Responsible Individual has access to withdraw funds, make changes, or even close the account. They also assume any responsibility for any associated tax-related situations. The Beneficiary, which is the student, does not have access to the account.
- Earnings are tax-deferred. You do not pay tax on dividends earned.
- Contributions are non-tax deductible.
- Money can be withdrawn at any time, without restriction, and is tax free and penalty free if used for qualified education expenses.
- Withdrawals must be completed by age 30. Otherwise, the remaining funds can be transferred to another eligible family member. If funds are instead withdrawn, they are subject to applicable taxes.
- Transfers can be made directly from another Coverdell ESA, tax free.
Tax Advantages
An IRA is a great supplement to your retirement income and your earnings are tax deferred. If eligible, your contributions may be tax deductible and your withdrawals may be tax free and penalty free, depending on the type of IRA you choose to open. We always suggest consulting with a tax advisor when making any decisions that could affect your taxes.
Investment Flexibility
Each financial institution and investment company is different. Some offer “passbook” IRAs where you regularly earn dividends or interest. This is the type of IRA we offer here at HFS FCU. Others give you options for investments such as certificates, stocks, bonds, mutual funds, etc. You’ll want to choose the best option for you based on what you are comfortable with, and after consulting a tax advisor.
Frequently Asked Questions
Is an IRA and 401k the same thing?
No. Despite both accounts being retirement savings vehicles, a 401(k) is a type of employer-sponsored plan with its own set of rules. An IRA is an account that the owner establishes without the employer being involved.
How much does an IRA earn per year?
The amount an IRA earns per year depends on several factors – the type of investment, the rate of interest, simple rate vs. compounding rate, the frequency earnings are paid, etc.
How much money should you have saved by age 40?
As a general guideline, experts estimate you should have 3 times your annual salary by age 40.
Apply for an IRA Account with HFS Federal Credit Union
Applying for an IRA with HFS Federal Credit Union is a great way to kick start your retirement income. We offer an attractive interest rate, higher than a savings account. Dividends are paid and compounded quarterly on the last day of the quarter. You may withdraw at anytime and HFS does not charge any fees or penalties.
Start saving early and start small so you can dream BIG in retirement. Visit any of our 6 convenient branch locations or contact us at (808) 930-1400, toll-free at (800) 216-2666, and ask to speak with an IRA Specialist.
