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Individual retirement accounts (IRAs) are a common method for saving for retirement, with tax incentives offered by the US government. Withdrawals from a traditional IRA are considered taxable income, but contributions can be made with pre-tax funds. Roth IRAs have fewer restrictions, but contributions must be made with after-tax dollars. Exceptions for early withdrawals include health insurance and education expenses, and IRA funds are protected in bankruptcy.
One of the most common methods used by people to save money for retirement is the individual retirement account (IRA). The United States government has offered incentives through the tax code for the use of IRAs, making them a valuable tool for accumulating retirement savings. When a person stops putting money into an IRA and starts withdrawing money from it, these withdrawals are called IRA distributions. With a Traditional IRA, a periodic IRA distribution can be made, without penalties, once the account holder reaches age 59.5.
Actually, an IRA distribution can be taken at any time, although there is usually a penalty if it is done too soon. Eventual withdrawal from an IRA is considered taxable income, but this does not mean that you cannot avoid a certain amount of tax by using an IRA. For example, a person may contribute a large portion of their annual income to an IRA, up to a certain dollar amount. These contributions can be made with pre-tax funds, which means that an individual could potentially be placed in a lower income tax bracket by contributing to their IRA.
In the former case, a person will typically retire at a certain age and start withdrawing from their IRA. His IRA distribution is considered taxable income, but his distribution will probably be less than his income while he was working. This will put you back in a relatively low tax bracket, especially if your IRA distribution represents a large percentage of your income. All of this will have the effect of saving that person a great deal of money in taxes, over the course of his lifetime.
A person can take an IRA distribution, without penalty, once they reach age 59.5. In addition, that person must begin taking a distribution before April 1 of the year in which he turns age 70.5. At that point, a certain minimum amount must be withdrawn called the Required Minimum Distribution, according to tax law.
All of this is true of most IRAs. A Roth IRA, on the other hand, has fewer restrictions on what can and cannot be done with the money once it’s in the account. However, it’s worth noting that contributions to a Roth IRA must be made with after-tax dollars.
There are certain situations in which a person can take an IRA distribution before it would normally be allowed. These exceptions include withdrawals to pay for health insurance while a person is unemployed and certain qualified educational expenses. IRA accounts also offer a little-known added benefit: IRA funds are protected in the event the account holder becomes a debtor in a bankruptcy proceeding.
Smart Asset.
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