The Tax-Advantaged Path to Retirement

Let’s start with the traditional individual retirement account, the most common type of IRA. IRAs let earnings grow tax deferred. Individuals pay taxes on investment gains only when they make withdrawals. Depositors may be able to claim a deduction on their individual federal income tax return for the amount they contributed to an IRA.

What to consider before investing in a traditional IRA

• A traditional IRA is a tax-advantaged personal savings plan where contributions may be tax deductible.
• Generally, the money in a traditional IRA isn’t taxed until it’s withdrawn. This can be an advantage, as most people have less income—and thus are in a lower bracket—when they’re ready to withdraw.
• There are annual limits to contributions depending on the person’s age and the type of IRA.
• When planning when to withdraw money from an IRA, taxpayers should know that:
  • They may face a 10% penalty and a tax bill if they withdraw money before age 59½ unless they qualify for an exception.
  • Usually, they must start taking withdrawals from their IRA when they reach age 73 (age 72 if they turned 72 in 2022). For tax years 2019 and earlier, that age was 70½.
  • Special distribution rules apply for IRA beneficiaries.

Differences between a Roth and a traditional IRA

A Roth IRA is another tax-advantaged personal savings plan with many of the same rules as a traditional IRA. However, you contribute after-tax dollars, so there is no immediate tax advantage. However, when you withdraw later on, it’s tax free, since you paid with after-tax dollars already. Explains the IRS:

• A taxpayer can’t deduct contributions to a Roth IRA.
• Qualified distributions are tax free.
• Roth IRAs don’t require withdrawals until after the death of the owner.

A Roth may be good if you expect to be in a higher bracket at retirement.

Other types of IRAs

• Simplified Employee Pension – A SEP IRA is set up by an employer. The employer makes contributions directly to an IRA set up for each employee. ·
• Savings Incentive Match Plan for Employees – A SIMPLE IRA allows the employer and employees to contribute to an IRA set up for each employee. It is suited as a start-up retirement savings plan for small employers not currently sponsoring a retirement plan.
• Payroll Deduction IRA – Employees set up a traditional or a Roth IRA with a financial institution and authorize a payroll deduction agreement with their employer.
• Rollover IRA – The IRA owner receives a payment from their retirement plan and deposits it into an IRA within 60 days.

This is just a summary of the main provisions—there are exceptions. The links will connect you to more details on the IRS site. However, everyone’s situation is different. The right retirement vehicles are dependent on your situation: Does your job have a pension or a 401(k) plan? Are you expecting an inheritance? What are your retirement plans? The only way to be sure of a secure retirement is to work closely with estate and financial professionals.

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Bridget Mackay

Bridget has been practicing law for over 25 years. After graduating from Santa Clara Law, she spent 10 years as a Deputy District attorney in both Solano and Sonoma Counties. After the birth of her daughter, her priorities changed, and she began a practice in estate planning and Medi-Cal benefits planning. This transition was a natural fit and all her skills of listening, compassion and fearless pursuit on behalf of her clients translated well to this area of law. She lives in Petaluma with her daughter and Australian Shepherd, Joey. Read More!

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