If you’re in your 20s, think about retirement may seem like a distant goal that you don’t have to worry about until later. For many there’s simply too much going on to worry about retirement such as:
- Family obligations
- Monthly bills
- Student loans
- Car loans
You could also be trying to build an emergency fund or possibly saving up for a house down payment. However if you get too distracted and wait, you’re making yourself financially vulnerable for retirement.
If you haven’t already, opening a Roth IRA can help you reach your retirement goal.
Roth IRA vs Traditional IRA- Which is Better?
When people look at IRAs, there may see two options- traditional and Roth. The main difference between the two IRAs has to do with when you’ll be taxed:
- Roth IRA – contributions are made with after-tax assets, all transactions within the IRA have no tax impact, and withdrawals are usually tax-free.
- Traditional IRA – contributions are often tax-deductible (often simplified as “money is deposited before tax” or “contributions are made with pre-tax assets”), all transactions and earnings within the IRA have no tax impact, and withdrawals at retirement are taxed as income.
Sources: IRS Publication 590 and Wikipedia
For both types of IRA, you can contribute $5,000/year. Please keep in mind that these annual limits are per person. For example, a couple can contribute $10,000 total annually to their Roth IRAs.
I use a Roth IRA and send in my contributions through out the year.
Importance of Asset Allocation
The gist of proper asset allocation is maximizing your return while minimizing your risk. While maximizing returns seems clear, risk is subjective. Everyone has their own risk tolerance, so you’ll see different investors choose different investment vehicles.
A benefit of having the proper asset allocation is to fit your goals. Usually investors seek aggressive growth in the long term and shift to more stability of their money in the short term (i.e. for people retiring soon).
If you want a system that is easy to manage and has a track record of long term growth, you want to look for low cost index funds to put your money in. These are mutual funds that track a market index such as the S&P 500. They have low expense fees because they not usually actively managed.
Where to Open an IRA
Here are some places to consider for opening an IRA if you haven’t already started. The earlier you start, the more you can take advantage of compound interest.
Banks, brokerages, and credit unions also offer IRAs. Some charge a flat fee for the year, some take a fee for each transaction made, others can take a percentage, and some do all of this. Compare your options to see if you’re getting a good deal.
Deadline for Roth IRA Contributions
You can make contributions throughout the year. If you haven’t filed your taxes yet for 2011, you can also contribute towards your Roth IRA up until you submit your return.
Finding Money for Your Roth IRA
If you don’t know where you can cut your expenses to have money for your Roth IRA, I’m going suggest just one change to your budget that could potentially help you to make out your yearly contributions consistently – don’t have a car loan.
Did you know that the average car loan being around $26,300 ? With car payments $200 or more each month (depending if you have one or two car loans), if you redirect that money towards your Roth IRA, you’ll be able to reach your goals without having to make other changes to you budget. (Though, you’re more than welcomed to lower your expenses across the board.)
I’ve written how we’ve stopped financing cars and instead bought our cars with cash.