Benefits of opening an IRA

2006-01-21

An Individual Retirement Arrangement is a retirement plan that comes with several tax advantages. The correct legal term for this concept is Individual Retirement Arrangement, but it is usually referred to as Individual Retirement Account in everyday language and even professionals use the term Individual Retirement Account instead of the more formal Individual Retirement Arrangement.

There are several types of individual retirement accounts. Some of them are provided by an employer while others are most commonly arranged by an individual. An IRA account can be a trust or an annuity. If a trust is formed, it must meet criteria set up by the Internal Revenue Service. When we speak about annuity, we can refer to two very different types of annuity – immediate annuity and deferred annuity. An individual retirement arrangement account is typically a deferred annuity, not an immediate annuity. It is imperative to know the difference between these two terms since they refer to two very different types of legal contracts. An annuity is an investment where the saver invests an up-front sum of money and becomes entitled to a defined series of payments in the future. Immediate annuity is a form of distributing savings via an insurance policy. An immediate annuity will pay out a series of either level or fluctuating payments on a regular basis. These payments will continue for a preset term of years, such as 10 years or during the continuance of an individual's life time. A deferred annuity is instead chiefly a way of accumulating savings. While immediate annuity has existed for more than 400 years, deferred annuity was invented during the 1970s. The typical form of deferred annuity offers a safe interest rate by linking the promised return to the overall market performance, e.g. by following a certain index. With a deferred annuity, the increased value is not taxed until money is actually withdrawn from the account some day in the future which makes it a so called tax-deferred growth. The most common forms of IRA are the Traditional IRA, Simple IRA and Roth individual retirement arrangement.

Traditional IRA
With a traditional IRA account, the money will be deposited before tax and you will pay no tax on the accumulating values at your traditional IRA account. Tax will instead be paid when you retire and withdraw your money from the traditional IRA account. The Traditional IRA has three subcategories: Rollover individual retirement arrangement account, Conduit individual retirement arrangement account and SEP individual retirement arrangement account. The Rollover individual retirement arrangement is very similar to the Traditional IRA when it comes to tax issues, but the money is withdrawn from some other type of retirement plan and simply “rolled over” to your Traditional IRA account. A Conduit individual retirement arrangement account makes it possible for you to transfer qualified investments between accounts, but will otherwise function very much like a standard traditional IRA. If you wish to be eligible for the beneficial tax treatment it is imperative that you follow all the regulations regarding fund transfers. One of the most important things to keep in mind is that the funds must never be commingled with your other assets – not even with other traditional IRA. SEP individual retirement arrangement is an Individual Retirement Account for self employed individuals. You can invest your SEP funds in a vide range of things if you use brokerage accounts. SEP individual retirement arrangement is available for regardless of whether you have employees or not, but if you have employees it will in many cases be obligatory for you to offer them the same possibility. In many aspects an SEP individual retirement account will be very similar to a traditional IRA account.

Simple IRA
A simple IRA is very similar to the standard 401(k) pension plan, but as the name suggests the simple IRA has been simplified. The administration of a simple IRA is very basic and the contribution limits are lower. Simple IRA can only be set up by employers with no more than 100 employees. During the preceding calendar year, the employees must have earned at least $5,000 in compensation for a Simple IRA to be arranged. All the employees count when you calculate the number of employees, regardless of whether they will be included in the Simple IRA plan or not. There is no rule against governmental entities and tax-exempt employers to maintain a Simple IRA. If you do not already have an existing Simple IRA plan, you can set one up that can be effective on any single date from January 1st to October 1st.

Roth individual retirement arrangement
With a Roth individual retirement arrangement account, your money will be taxed before they are deposited. The accumulation of value will not be taxed, and contrary to the other forms of individual retirement arrangement accounts you will be able to withdraw money from your Roth individual retirement arrangement account without being taxed. A Roth individual retirement arrangement account is also subjected to fewer restrictions than other types of individual retirement arrangement accounts and you will be allowed to withdraw your money more freely. You can for instance be allowed to withdraw $10,000 from your Roth individual retirement arrangement account to pay for a home even if you are not retired yet.

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