Retirement planning has typically been one of those subjects that we know should concern us but, in reality, suffers from a great practical lag. One of the reasons for the lag is that the standard employee isn’t comfortable with the retirement ropes, and it can seem overwhelming and even daunting. There are a ton of options out there, but who in their right mind wants to get involved in a morass of numbers? To remedy this situation, here is a frequently asked questions primer of the most popular retirement planning options. This can get your head in the right place, and allow you to start thinking intelligently about the next step.
Individual Retirement Account (IRA). An IRA is a specialized investment and savings account that is dedicated to retirement funds. The government allows money that is placed in an IRA to be tax deferred so as to encourage Americans to save for retirement. Any American can open an IRA account, and most usually do so through one of the larger financial institutions (e.g. Fidelity Investments.) In the most common scenario, you open an account with the institution, and then you choose where you would like your retirement funds to be invested (usually from a list of stocks and funds). The institution itself handles most of the administrative aspects of the account. This is a good option for those who want to save but would like to be hands-off as much as possible.
401(k). A 401(k) is like an IRA that is administered by an employer. It shares similar tax benefits to the IRA, but it allows for easier and larger contributions. While an IRA participant can only contribute up to $5,500 per year, a 401(k) participant can contribute up to $52,000 per year. A 401(k) also offers the possibility of matching funds from the employer (free money!). Most companies run their 401(k) program through a third-party administrator, and the investments are usually the standard stocks or funds.
Roth Accounts. An IRA or 401(k) can both come in a Roth version. Here’s how it works: In a traditional IRA, the funds being contributed are tax-deferred. That means that you don’t have to pay taxes on them now, and instead you pay when you cash out at retirement age. This is great for people who find themselves in a lower tax bracket when they withdraw the funds. In a Roth IRA or Roth 401(k), however, the contributions are made from post-tax dollars. That means that the taxes have already been paid on the funds that are being contributed. In this scenario, the funds can be invested and any profit they accrue will remain tax free. Whether or not a Roth is preferable depends on your financial situation and the types of investments that you will be making with your retirement funds.
Self-Directed Accounts. If you’re a hands-on investor, or you would like to invest your retirement funds somewhere other than stocks and funds, then a self directed IRA or 401(k) would be your best bet. With a self directed account, you control the management of your funds, and you can invest them in virtually any asset. Local real estate, private business, and physical gold are some of the more popular options. The self directed IRA and 401(k) come in two versions – a Custodian model and a Checkbook Control model – and which one is best depends on the nature of your investment.
Solo 401(k). This is a 401(k) style retirement plan that is reserved solely for those with self-employed income. It allows for the larger contributions of a standard 401(k), and contains a number of other benefits that an individual cannot access within an IRA account. The Solo 401(k) comes in traditional, Roth, and self-directed versions.
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