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Basic Information on IRAs

May 22, 2008
An IRA is a type of retirement plan that allows significant tax benefits for savings in US tax law. Unlike some plans, IRAs can either be offered by an employer or created by an individual. Most IRAs allow contributions to be made before taxes are removed from an individuals paycheck.

Types of IRAs

There are a number of different types of IRAs that offer different advantages. Traditional IRAs are the base, and the difference is what defines the other IRA types. Roth IRAs differ from other IRAs in that contributions are made after tax, so withdrawals are tax free.

SEP IRAs are generally offered by small businesses or self-employed indivuals. SIMPLE IRAs are more similar to 401(k) plans than other IRAs, though they have lower contribution limits and simplified administration. Self-Directed IRAs allow the holder to manage the fund themselves, rather than appointing a manager.

Previous versions of US tax law included other forms of IRAs. Rollover, Conduit, and Educational IRAs are no longer available for formation under current US tax law.

Tax treatments of most IRA types are very similar, with the exception of Roth IRAs.

Paying into IRAs

Only cash can be contributed to IRAs. As of 2008, the contribution limit for IRAs is $5000 per year, or $6000 if the individual is 50 years of age or older. However, contributions cannot be more than the annual income of the holder.

Money can almost always be transferred between IRAs and other retirement funds. There are a few exceptions, but in general IRAs and other retirement accounts can accept funds from one another freely.

Distributions

One of the major drawbacks to IRAs is that there are penalties levied on funds withdrawn before retirement age. In this case, 59.5 is considered the earliest age an individual can withdraw without penalties. There are some exceptions, however, such as allowances for educational expenses or a sum allowed for withdrawal when an individual buys their first home.

IRAs also require the holder to withdraw funds at a certain point, or the funds that should have been withdrawn will begin to be lost. When a holder reaches the age of 70 and 1/2, they must begin withdrawals.

IRA Holdings

Most IRAs are managed by a designated custodian. The exceptions are Self-Directed IRAs. For the most part, IRAs consist of securities, though some other assets are allowed.
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