Individual Retirement Arrangements (IRAs)

IRAs or individual retirement arrangements are one of the four popular groups of retirement savings accounts/plans. They utilize compounding interest to quickly grow invested capital. Financial service companies offering IRAs (like Vanguard and Charles Schwab) offer various assets (stocks, bonds, ETFs, CDs, etc.) for you to invest in within your IRA.

Scroll or click to navigate to learn about a specific IRAs.

Roth IRAs
 Traditional IRAs
 SEP IRAs
 SIMPLE IRAs
SARSEP IRAs
 Additional IRAs (SDIRAs, Payroll Deduction IRAs)
More Information (Custodial, Inherited and Rollover IRAs)


Roth IRAs

Roth IRAs are attractive as they offer many the ability to pay tax only when contributing money to their IRA account, allowing for all future earnings (regardless of size) to be withdrawn tax-free ("Roth IRAs"). This may be appropriate for younger earners who would like to take advantage of being at a possible lower tax rate.

  • Eligibility and Contributions: Anyone earning below the Roth IRA income limits is eligible to contribute to a Roth IRA. Generally, a single person with a MAGI or modified adjusted gross income below $146,000 can make a full contribution ($7,000 or $8,000 if above the age of 50) and joint-filers with a MAGI below $228,000 can make a full contribution as well. Single and joint-filers with MAGIs just above these limits can make reduced contributions ("Retirement topics - IRA contribution limits;" "Amount of Roth IRA contributions"). If, however, they have substantially higher MAGIs, they are ineligible to contribute to Roth IRAs (charts showing maximum Roth IRA contribution amounts associated with MAGI levels appears here) ("2023 – 2024 Roth IRA"). Of course if your MAGI allows you to make a full contribution and you wish to make a reduced/partial contribution, that is alright.

  • Withdrawals: Individuals are allowed to withdraw earnings from their Roth IRA at any time, however, they will receive a penalty for withdrawing earnings prior to the age of 59.5 ("IRA FAQs"). See the "Taxation" section just below to see the penalty for withdrawals on earnings prior to 59.5.

  • Taxation: All contributions are post-tax, meaning that no contributions are tax deductible and all income added to Roth IRAs are with after-tax dollars ("Roth IRAs"). Withdrawals on earnings, on the other hand, are tax-free after the age of 59.5 (the selling point of a Roth IRA). Withdrawals prior to 59.5 result in a 10% income tax penalty unless you qualify for these early withdrawal exceptions ("Retirement topics - Exceptions to tax").

  • RMDs: There are no required minimum distributions (RMDs) or mandatory withdrawals for the owner of a Roth IRA ("Retirement plan and IRA required minimum distributions FAQs"). Once, however, the owner of the Roth IRA passes away, those who inherit the Roth IRA are subject to RMDs. The IRS offers many resources to help with RMD calculations–scroll to the bottom of this page to learn more about RMDs on inherited IRAs.


Traditional IRAs

Traditional IRAs are attractive as they offer many people the ability to skip paying taxes on contributions to their IRA and instead pay taxes on earnings upon withdrawal ("Traditional IRAs"). This may be appropriate for people who are ineligible for Roth IRAs due to their MAGI level or for people who think their tax-bracket will be lower upon retirement (typically this consists of older people nearing retirement).

  • Eligibility: Anyone with earned income is eligible for a traditional IRA.

  • Contributions: As of 2024, annual contributions are limited to $7,000 or $8,000 if above the age of 50 ("Retirement topics - IRA contribution limits").

  • Withdrawals: An individual is allowed to withdraw from their traditional IRA at any time, however, they will receive a penalty for withdrawing prior to the age of 59.5 ("IRA FAQs"). See the "Taxation" section just below to see the penalty for withdrawals prior to 59.5.

  • Taxation: Contributions may be tax-deductible depending on factors such as marital-state and income level ("IRA deduction limits"). Withdrawals, however, are taxed as income, so the tax bracket you are a part of when withdrawing from your traditional IRA will correspond with the taxes you must pay ("Traditional IRAs"). Also any withdrawals prior to the age of 59.5 will result in a 10% additional income tax penalty unless you qualify for these early withdrawal exceptions ("Retirement topics - Exceptions to tax").

  • RMDs: Once an investor has hit the age of 72 (or 73 if the investor hits 72 after Dec. 31, 2022), required minimum distributions (RMDs) or mandatory withdrawals begin ("Retirement plan and IRA required minimum distributions FAQs"). These RMDs are based on factors such as your IRA year-end balance and life expectancy factor. The IRS offers many resources to help with RMD calculations–scroll to the "Calculating the required minimum distribution" on this page for help with making your RMD calculation.


SEP IRAs

SEP IRAs or Simplified Employment Pension Plan IRAs can be set up by self-employed people for themselves or by small business owners for their employees ("Simplified Employee Pension"). They are attractive as the annual cap on how much can be contributed to these IRAs are much higher than the $7,000 to $8,000 annual caps typically seen on Roth and traditional IRAs.

  • Eligibility: As mentioned above, self-employed people are eligible to open their own SEP IRAs and small businesses are eligible to open and offer SEP IRAs to their employees ("Simplified Employee Pension").

  • Restrictions: The IRS does allow employers offering SEP IRAs to add a few restrictions on how quickly an employee can access their SEP IRAs ("Simplified Employee Pension").

    • First, employers are allowed to grant SEP IRAs only to individuals who are 21 and older.

    • Second, employers are allowed to grant SEP IRAs only to employees who have worked for the employer offering the SEP IRA for at least 3 of the last 5 years.

    • Third, employers are allowed to grant SEP IRAs only to employees who received at least $750 in compensation for 2023 and 2024 (or $650 for 2022 and 2021 or $600 for 2020 and 2019).

    Of course if an employer would like to impose less stringent or even no restrictions at all, that is alright as well. Employers simply can not impose more stringent restrictions or different types of restrictions than these three. Please note: whatever the restrictions end up being, an employee who meets them, must opt-in to the employer’s SEP IRA.

  • Contributions: For SEP IRAs, only employers can make contributions to employee accounts ("Simplified Employee Pension"). Employers can contribute up to $69,000 or 25% of an employee’s annual compensation to their employees’ SEP accounts (25% contribution, however, can not exceed $69,000 as this is the cap for SEP IRA contributions as of 2024). For SEP IRAs, the percent amount of an employee's compensation that goes into an SEP IRA account must be uniform amongst all employees. Finally, although employers control the contribution amounts for their employees with SEP IRAs, employees are still able to decide which assets they would like to invest in within their SEP IRA. Please note: an employer can choose not to contribute to their employees’ SEP IRAs, however, on years they decide to contribute, they must contribute to the SEP IRAs of all their employees.

  • Withdrawals: Employees are allowed to withdraw from their SEP IRA at any time, however, they will receive a penalty for withdrawing prior to the age of 59.5 ("IRA FAQs"). See the "Taxation" section just below to see the penalty for withdrawals prior to 59.5.

  • Taxation: Contributions to SEP IRAs are generally tax deductible for the employer and employees ("Simplified Employee Pension"). Withdrawals, however, are taxed as income, so the tax bracket you are a part of when withdrawing from your SEP IRA will correspond with the taxes you must pay. Also any withdrawals prior to the age of 59.5 will result in a 10% additional income tax penalty unless you qualify for these early withdrawal exceptions ("Retirement topics - Exceptions to tax").

  • RMDs: Once an investor has hit the age of 72 (or 73 if the investor hits 72 after Dec. 31, 2022), required minimum distributions (RMDs) or mandatory withdrawals begin ("Retirement plan and IRA required minimum distributions FAQs"). These RMD withdrawals are based on factors such as your IRA year-end balance and life expectancy factor. The IRS offers many resources to help with RMD calculations–scroll to the "Calculating the required minimum distribution" on this page for help with making your RMD calculation.


SIMPLE IRAs

SIMPLE IRAs (Savings Incentive Match Plan for Employees) can be set up by self-employed people for themselves or by small businesses for their employees ("SIMPLE IRA"). They are attractive as the annual cap on contributions to these IRAs are much higher than the $7,000 to $8,000 typically seen on Roth and traditional IRAs and they also offer employers the ability to make matching or nonelective contributions to their employees’ SIMPLE IRA accounts.

  • Eligibility: As mentioned above, self-employed people are eligible to open their own SIMPLE IRAs and small businesses (with under 100 employees) are eligible to open and offer SIMPLE IRAs to their employees ("SIMPLE IRA").

  • Restrictions: Employers offering SIMPLE IRAs do have the right to add a few restrictions on how quickly an employee can access their SIMPLE IRAs ("SIMPLE IRA"). The IRS allows employers to offer SIMPLE IRAs only to employees who earned at least $5,000 in compensation during any 2 previous years and who expects to receive at least another $5,000 compensation-wise during the current year. Of course if an employer would like to impose less stringent or even no restrictions at all, that is alright as well. Employers simply can not impose more stringent restrictions or different types of restrictions than these ones. Please note: whatever the restrictions end up being, an employee who meets them, must opt-in to the employer’s SARSEP IRA.

  • Contributions: For SIMPLE IRAs, employees are able to contribute up to $16,000 (as of 2024) of their annual salary to their SIMPLE IRA ("SIMPLE IRA"). Employers can then make a separate matching contribution between 1% and 3% of an employee's annual salary (employers can only make the 1% matching contribution twice every five years). Alternatively, if employers prefer, they could also just make a 2% non-elective contribution each year to an employee's SIMPLE IRA on salaries up to $345,000. This 2% non-elective contribution means that even if an employee does not contribute any salary to their SIMPLE IRA, their employer still must contribute. With the 1-3% matching contributions, however, if the employee does not make any contributions, the employer will not contribute either. See the examples below to fully understand.

    • EXAMPLE 1 (1-3% Matching Contributions): Kelly works at the Ready Made Tire Company which employs 73 people and offers SIMPLE IRAs to its employees. She decides to place $4,000 into her SIMPLE IRA which is 4% of her yearly income of $100,000. Since Ready Made Tire Company matches contributions up to 3% of yearly salaries, Ready Made Tires contributes $3,000 (3% of $100,000) to Kelly's IRA in addition to her $4,000 contribution.

    • EXAMPLE 2 (1-3% Matching Contributions): Jonathan also works at the Ready Made Tire Company and he decides to place $2,000 into his SIMPLE IRA which is 2% of his yearly income of $100,000. Since the Ready Made Tire Company matches contributions up to 3% of yearly salaries, Ready Made Tires contributes $2,000 (2% of $100,000) to Jonathan's IRA in addition to his $2,000 contribution. Ready Made Tires does not contribute 3% of Jonathan’s income because his contribution made up less than 3% of his income.

    • EXAMPLE 3 (2% Non-Elective Contribution): Alan works at Beach Boy Tires which employs 63 people and offers SIMPLE IRAs to its employees. He decides to place $15,000 into his IRA. Since Beach Boy Tires offers 2% non-elective contributions to SIMPLE IRAs and since Alan makes $340,000 each year, Beach Boy Tires contributes $6,800 to his IRA in addition to his $15,000.

    • EXAMPLE 4 (2% Non-Elective Contribution): Betty also works at Beach Boy Tires and also opens a SIMPLE IRA, however, this year she decides not to make any contributions to her IRA. Beach Boy Tires must still make a 2% non-elective contribution to her SIMPLE IRA. This works out to be $4,000 since Betty makes $200,000 each year.

  • Withdrawals: Employees are allowed to withdraw from their SIMPLE IRA at any time, however, they will receive a penalty for withdrawing prior to the age of 59.5 ("IRA FAQs"). See the "Taxation" section just below to see the penalty for withdrawals prior to 59.5.

  • Taxation: Contributions to SIMPLE IRAs are generally tax deductible for the employer and employees ("SIMPLE IRA plan FAQs"). Withdrawals, however, are taxed as income, so the tax bracket you are a part of when withdrawing from your SIMPLE IRA will correspond with the taxes you must pay. Also any withdrawals prior to the age of 59.5 will result in a 10% additional income tax penalty unless you qualify for these early withdrawal exceptions ("Retirement topics - Exceptions to tax").

  • RMDs: Once an investor has hit the age of 72 (or 73 if the investor hits 72 after Dec. 31, 2022), required minimum distributions (RMDs) or mandatory withdrawals begin ("Retirement plan and IRA required minimum distributions FAQs"). These RMD withdrawals are based on factors such as your IRA year-end balance and life expectancy factor. The IRS offers many resources to help with RMD calculations–scroll to the "Calculating the required minimum distribution" on this page for help with making your RMD calculation.


SARSEP IRAs

SARSEP IRAs or Salary Reduction Simplified Employee Pension plan were IRAs established by self-employed people for themselves or by employers for their employees ("Salary Reduction Simplified Employee Pension plan"). They are no longer allowed to be established (as of 1997), however, employers who created them prior to 1997 can still have employees using them and can still offer them to new employees ("Retirement plan FAQs regarding SARSEPs"). They are attractive as the annual cap on contributions to these IRAs are much higher than the $7,000 to $8,000 annual caps typically seen on Roth and traditional IRAs and employers can make contributions to the SARSEP IRAs of their employees if they would like.

  • Eligibility: Self-employed people were eligible to open their own SARSEP IRAs prior to 1997 and small businesses (with under 25 employees) were eligible to open and offer SARSEP IRAs to their employees ("Salary Reduction Simplified Employee Pension plan").

  • Restrictions: The IRS does allow employers offering SARSEP IRAs to add a few restrictions on how quickly an employee can access their SARSEP IRAs ("Salary Reduction Simplified Employee Pension plan").

    • First, employers are allowed to grant SARSEP IRAs only to individuals who are 21 and older.

    • Second, employers are allowed to grant SARSEP IRAs only to employees who have worked for the employer offering the SARSEP IRA for at least 3 of the last 5 years.

    • Third, employers are allowed to grant SARSEP IRAs only to employees who received at least $750 in 2023 and 2024 (or $650 for 2022 and 2021 or $600 for 2020 and 2019).

    Of course if an employer would like to impose less stringent or even no restrictions at all, that is alright as well. Employers simply can not impose more stringent restrictions or different types of restrictions than these three. Please note: whatever the restrictions end up being, an employee who meets them, must opt-in to the employer’s SARSEP IRA.

  • Contributions: For SARSEP IRAs, employees are able to contribute up to $22,500 as of 2023 to their SARSEP IRA ("Retirement plan FAQs regarding SARSEPs"). Employers are then allowed to contribute to their employees SARSEP as well, however, including the amount that an employee has contributed, an employer can not contribute more than $66,000 for 2023. Please note: Employees and employers are only allowed to contribute to SARSEP IRAs if at least 50% of employees at that company choose to contribute to their SARSEP IRAs.

  • Withdrawals: Employees are allowed to withdraw from their SARSEP IRA at any time, however, they will receive a penalty for withdrawing prior to the age of 59.5 ("IRA FAQs"). See the "Taxation" section just below to see the penalty for withdrawals prior to 59.5.

  • Taxation: Contributions to SARSEP IRAs are generally tax deductible for the employer and employees ("Salary Reduction Simplified Employee Pension plan"). Withdrawals, however, are taxed as income, so the tax bracket you are a part of when withdrawing from your SARSEP IRA will correspond with the taxes you must pay. Also any withdrawals prior to the age of 59.5 will result in a 10% additional income tax penalty unless you qualify for these early withdrawal exceptions ("Retirement topics - Exceptions to tax").

  • RMDs: Once an investor has hit the age of 72 (or 73 if the investor hits 72 after Dec. 31, 2022), required minimum distributions (RMDs) or mandatory withdrawals begin ("Retirement plan and IRA required minimum distributions FAQs"). These RMD withdrawals are based on factors such as your IRA year-end balance and life expectancy factor. The IRS offers many resources to help with RMD calculations–scroll to the "Calculating the required minimum distribution" on this page for help with making your RMD calculation.


Additional IRAs

SDIRAs

SDIRAs or self-directed IRAs are just like Roth or traditional IRAs but with a few extra investment offerings (What Is an SDIRA?). Roth and traditional IRAs offer basic investments such as stocks, bonds, ETFs, etc., however, SDIRAs offer all these usuals plus investments like real estate, tax lien certificates, precious metals, cryptocurrencies, commodities, limited partnerships, etc.

Although these alternative investments and offers to further diversify your IRA portfolio may sound attractive, these more obscure investments can be difficult to maintain, learn and understand. And since SDIRAs are self-directed, financial custodians such as banks, brokerages, financial institutions, etc., are not allowed to provide advice to people building and contributing to SDIRAs. So, unless you are an investing pro, SDIRAs can be risky as these alternative investments require a high depth of knowledge to benefit from.

Payroll Deduction IRAs

With payroll deduction IRAs, employees are free to set up either a Roth or traditional IRA at an institution of their choice and authorize their employers to make a payroll deduction from their paycheck so that their employer can directly transmit that deduction as a contribution to their IRA ("Payroll deduction IRA"). This payroll deduction choice simply exists to streamline the process of making IRA contributions.


More Information

Custodial IRAs

Custodial IRAs are either Roth or traditional IRAs that can be opened for minors with earned income ("What is a Custodial IRA?"). When this IRA is opened, the parent who opened it, manages it until the child turns 18 or 21 (or even 25 in some states). Opening a custodial IRA can be advantageous as it will incentivize children to start saving earlier, it will provide children more time to take advantage of compounding growth and finally the child may be able to make an early withdrawal to help pay for college or a first home. For more information please search "custodial IRA" and review information from financial service companies offering these types of IRAs.

Inherited IRAs

For beneficiaries of IRAs or those who inherit IRAs, the IRS will categorize you as one of four types of beneficiaries: spousal beneficiaries for account holders who died prior to 2020, spousal beneficiaries for account holders who died after 2020, non-spousal beneficiaries for account holders who died before 2020, and non-spousal beneficiaries for account holders who died after 2020 ("Retirement topics - Beneficiary"). Based on which group you are in, the IRS provides you options for what you can continue doing with your IRA. Please learn more about the specifics and your options based on your group here. Note: the beneficiary (spouse, child, etc.) of an IRA is of course determined by the account holder and not the IRS and also beneficiaries can not continue making contributions to inherited IRAs.

Rolling over retirement plans

The roll over of a retirement plan entails taking withdrawals (commonly referred to as distributions in the cases of rolling over) from one retirement plan and placing them into another retirement plan ("Rollovers of retirement plan and IRA distributions"). A lot of people roll over retirement plans when they leave one employer and are no longer eligible to participate in that retirement plan. A common rollover may consist of taking distributions from a 401(k) and placing them into a IRA. Many other rollovers exist such as those between different types of IRAs, those between different type of employer-sponsored plans, or those between IRAs and employer-sponsored plans.

There are many interesting opportunities to benefit from when rolling over between retirement funds. For example, if you are taking distributions from an IRA prior to the age of 59.5 and you wish to roll those distributions, you may not be subject to any penalties ("Rollovers of retirement plan and IRA distributions"). Furthermore, if you are rolling over from a tax-deferred retirement plan to another tax-deferred plan, taxes may continue to be deferred. These opportunities, however, do not apply in all situations and there are many more rules and opportunities which apply to certain roll overs. Please learn more about rollovers on the IRS's website here and with this rollover chart offered by the IRS ("Rollovers of retirement plan and IRA distributions"; "Rollover chart").

Note: Required minimum distributions or RMDs are not able to be rolled over.


Works Cited

“2023 – 2024 Roth IRA Contribution Limits.” Charles Schwab, Charles Schwab & Co., www.schwab.com/ira/roth-ira/contribution-limits. Accessed 1 Sept. 2024.

“Amount of Roth IRA Contributions That You Can Make for 2024.” Internal Revenue Service, 1 Aug. 2024, www.irs.gov/retirement-plans/plan-participant-employee/amount-of-roth-ira-contributions-that-you-can-make-for-2024.

"IRA deduction limits." Internal Revenue Service, 2 Aug. 2024, https://www.irs.gov/retirement-plans/ira-deduction-limits.

"IRA FAQs - Distributions (withdrawals)." Internal Revenue Service, 30 July 2024, https://www.irs.gov/retirement-plans/retirement-plans-faqs-regarding-iras-distributions-withdrawals.

"Payroll deduction IRA." Internal Revenue Service, 19 Aug. 2024, https://www.irs.gov/retirement-plans/plan-sponsor/payroll-deduction-ira.

"Retirement plan and IRA required minimum distributions FAQs." Internal Revenue Service, 19 Aug. 2024, https://www.irs.gov/retirement-plans/retirement-plan-and-ira-required-minimum-distributions-faqs#:~:text=Roth%20IRAs%20do%20not%20require,required%20from%20designated%20Roth%20accounts.

"Retirement plan FAQs regarding SARSEPs." Internal Revenue Service, 31 July 2024, https://www.irs.gov/retirement-plans/retirement-plans-faqs-regarding-sarseps.

"Retirement topics - Beneficiary" Internal Revenue Service, 26 Aug. 2024, https://www.irs.gov/retirement-plans/plan-participant-employee/retirement-topics-beneficiary.

"Retirement topics - Exceptions to tax on early distributions." Internal Revenue Service, 19 Aug. 2024, https://www.irs.gov/retirement-plans/plan-participant-employee/retirement-topics-exceptions-to-tax-on-early-distributions.

"Retirement topics - IRA contribution limits." Internal Revenue Service, 20 Aug. 2024, https://www.irs.gov/retirement-plans/plan-participant-employee/retirement-topics-ira-contribution-limits.

"Rollovers of retirement plan and IRA distributions." Internal Revenue Service, 20 Aug. 2024, https://www.irs.gov/retirement-plans/plan-participant-employee/rollovers-of-retirement-plan-and-ira-distributions.

"Rollover Chart." Internal Revenue Service, https://www.irs.gov/pub/irs-tege/rollover_chart.pdf. Accessed 1 Sept. 2024.

"Roth IRAs." Internal Revenue Service, 20 Aug. 2024, https://www.irs.gov/retirement-plans/roth-iras.

"Salary Reduction Simplified Employee Pension plan (SARSEP)." Internal Revenue Service, 19 Aug. 2024, https://www.irs.gov/retirement-plans/plan-sponsor/salary-reduction-simplified-employee-pension-plan-sarsep

"SIMPLE IRA plan." Internal Revenue Service, 26 Aug. 2024, https://www.irs.gov/retirement-plans/plan-sponsor/simple-ira-plan.

"SIMPLE IRA plan FAQs." Internal Revenue Service, 19 Aug. 2024, https://www.irs.gov/retirement-plans/retirement-plans-faqs-regarding-simple-ira-plans.

"Simplified Employee Pension plan." Internal Revenue Service, 19 Aug. 2024, https://www.irs.gov/retirement-plans/plan-sponsor/simplified-employee-pension-plan-sep.

"Traditional IRAs." Internal Revenue Service, 1 Dec. 2023, https://www.irs.gov/retirement-plans/traditional-iras.

"What is a Custodial IRA?" Charles Schwab, Charles Schwab & Co., https://www.schwab.com/ira/inherited-and-custodial-ira#:~:text=A%20Custodial%20IRA%20is%20an,or%2025%20in%20some%20states). Accessed 1 Sept. 2024.

"What is an SDIRA." Madison Trust Company, https://www.madisontrust.com/sdira/. Accessed 1 Sept. 2024.


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If you have any questions regarding personal finances or IRAs, please feel free to reach out at rthpersonalfinance@gmail.com!

RTH

Englewood, NJ

rthpersonalfinance@gmail.com