A Quick Guide To Understanding Your Individual Retirement Account

Individual Retirement Account - It's never too early to start preparing for your retirement and one of the best ways to prepare is to create an Individual Retirement Account (often referred to as an IRA).

A Quick Guide To Understanding Your Individual Retirement Account

A Quick Guide To Understanding Your Individual Retirement Account

The purpose of an IRA is to serve as a tax-qualified personal retirement savings plan. Anyone who works, whether as an employee or self-employed, can set aside a certain amount in an IRA, with income on this investment tax-deferred until the date of distribution. In addition, certain individuals are allowed to withhold all or part of their contributions to the IRA. Plus, in 1998, certain individuals were also able to set up a Roth IRA, whose contributions are non-deductible, but from which withdrawals at retirement would not be taxed.

It doesn't take much to set up an IRA. The trustee (or custodian) can be a bank, mutual fund, brokerage house or other financial institution. You cannot be your own guardian. IRAs can be formed and contributions made after the end of the year, no later than the due date for filing income tax returns for that year, excluding extensions. This generally means that you have until April 15 of the following year to make a contribution and deduct it on your tax return.

The most you can contribute to an IRA in one year (as of 2006) is less than $4,000 or an amount equal to the includible compensation income for that year. Those aged 50 and over will also be allowed to contribute an additional $1,000 towards pursuing an IRA each year to help them save more for retirement.

The same limits apply even if you have more than one IRA, or more than one type of IRA. When you and your spouse are compensated, you can each make the maximum contribution, which translates to a total of $8,000 ($10,000 if you are both 50 years old or older). In 2008, the IRA contribution limit will be raised to $5,000, while catch-up contributions for those aged 50 and over will remain $1,000.

You don't have to contribute the full amount allowed each year. You may miss a year or even a few years. You can continue to make contributions the following year, but you cannot add additional funds to make up for years when no contributions were made.

Contributions must be from compensation. This can be from wages, salaries, commissions and other sources of income earned. Contributions don't include things like deferred compensation, pension payments, or portfolio income from interest or dividends.

You can contribute more than the allowable amount, however, a 6 percent excise tax penalty will be assessed.

No contributions may be made to an inherited IRA, in any form other than cash, or during or after the year in which the individual reaches the age of 70.5.

You must begin taking distributions from your IRA no later than April 1 of the following year in which you reach age 70.5, or the year in which you retire, whichever is longer.

This is a brief and general overview of IRAs. The rules are slightly different for Roth IRAs, which have their own contribution and distribution limits. Before setting up an IRA, take the time to speak with your banker, accountant, or financial advisor to make sure you have a solid understanding of your options and set up the IRA that best suits your individual needs.

That's A Quick Guide To Understanding Your Individual Retirement Account

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