What is an IRA? A Beginner's Guide to Retirement Savings

What is an IRA?

An Individual Retirement Account (IRA) is a retirement savings account that offers tax breaks. It allows you to contribute money that can grow either tax-free or on a tax-deferred basis, helping you build a nest egg for your future.

How Many Types of IRAs Are There?

There are two main types: Traditional and Roth IRA.

1. Traditional IRA You can make pre-tax contributions, and your investment earnings grow tax-deferred until withdrawn. You pay income tax when you make withdrawals in retirement.

2. Roth IRA A Roth IRA is an Individual Retirement Account where contributions are made with after-tax dollars. While there are no current-year tax benefits, your contributions and earnings grow tax-free.

• You can withdraw your contributions (but not earnings) tax and penalty-free at any time.
• You can withdraw earnings tax and penalty-free after age 59½, provided the account has been open for at least five years.
• Learn more about the magic of Roth IRAs here.

How Do I Open a Traditional IRA Account?

You can open an IRA account with almost any online brokerage firm, mutual fund company, or bank. When choosing a provider, pay attention to their management fees, trading commissions, and opening requirements to ensure you get a good deal.

How Much Can I Contribute Every Year?

For the 2025 tax year, you can contribute up to $7,000.

• Catch-up Contribution: If you are age 50 or older, you can contribute an additional $1,000, for a total of $8,000.
• Note: Generally, you (or your spouse if filing jointly) must have earned income to contribute to an IRA.

Do I Get a Tax Deduction for My Contribution?

For a Traditional IRA, yes, you often do.

• Example: If your taxable income is $65,000 and you contribute $7,000 to your Traditional IRA, your taxable income for the year is reduced to $58,000.
• Limitations: If you or your spouse are covered by a retirement plan at work (like a 401k), your ability to deduct contributions may be limited based on your income (Modified AGI). Check the IRS limits here.

When Can I Take Distributions?

• Age 59½: You can generally start taking penalty-free distributions from a Traditional IRA when you reach age 59½. You will pay regular income tax on these withdrawals.
• Early Withdrawals: If you take money out before age 59½, you may have to pay a 10% early withdrawal penalty in addition to income tax. There are some exceptions (e.g., first-time home purchase, higher education expenses).
• RMDs (Required Minimum Distributions): You don’t have to take money out just because you hit 59½. However, under the SECURE 2.0 Act, you must start taking Required Minimum Distributions (RMDs) when you reach age 73.

Client Success Story: The Power of Compounding

Note: Details have been anonymized to protect client privacy.

A young professional started contributing the maximum to their Roth IRA at age 25. Even though they couldn’t deduct the contributions upfront, the tax-free growth over 30 years is projected to be worth hundreds of thousands of dollars more than a taxable account. By starting early, they are securing a completely tax-free retirement income stream.

Conclusion

Whether you choose a Traditional or Roth IRA, the most important step is to start saving. Novicta Tax can help you determine which account is right for your financial situation and help you plan for a secure retirement.