Saving for retirement is important, but do you know what different retirement plans are out there? Three common retirement plans are traditional IRAs, Roth IRAs, and 401(k)s. For recent graduates just starting their careers, it can be hard to know exactly which retirement plan is the best one for their own situation. Here is a quick breakdown of each one.
Three Different Retirement Plans
The traditional IRA is a retirement account you can open up yourself, which is a good option if your employer doesn’t offer a retirement plan. This type of account allows you to invest in stocks, bonds, and mutual funds. You don’t pay taxes on the investment gains, but you will pay income tax on the money you withdraw from the account once you retire. However, you can deduct your traditional IRA contributions on your tax returns if you don’t have a 401(k) through your work. This will reduce your taxable income for the year.
Don’t withdraw money from this account until you reach the age of 59 and a half, otherwise, you will have to pay a penalty fee. Once you turn 70, you will be required to start withdrawing annually from your traditional IRA.
A Roth IRA is a little different from the traditional IRA. With a Roth IRA, you can withdraw money with no penalty before you reach the age of retirement. It is also not mandatory to start withdrawing at age 70. Roth IRA plans are not tax deductible like the traditional IRA’s, but you will never be taxed on the money you withdraw from the Roth IRA.
Keep in mind for both the traditional and Roth IRA, the maximum you can contribute to these accounts is $6,000 for 2019.
Unlike IRAs, the 401(k) is a retirement plan that is only offered through your employer. A 401(k) allows you to contribute part of your pre-tax paycheck toward investments to save for retirement. Similar to the traditional IRA, withdrawing money before the age of 59 and a half will result in a penalty. Also, like the traditional IRA, you will be taxed once you start withdrawing money from this account.
A major benefit to contributing to a 401(k) is that most employers will match your contributions. For example, if you contribute 2% of your income to a 401(k), your employer will match that amount. That’s basically free money! However, it is important to know how long you need to be at the company before you can take your employer’s contributions. If you leave the company before a certain amount of time, you cannot take your employer’s contributions with you.
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