View Full Version : Why would I want to open an IRA?
TheMetetron
12-03-2005, 05:48 PM
Okay, I'm doing my taxes for '05 and I am trying to understand the logic behind an IRA. Why would I want to put 40k (I think the maximum is) into an IRA?
Sure, I don't have to pay taxes on it now, but I will when I withdraw it, correct? So what's the point? I either invest it on my own, pay taxes on the principal now, and pay taxes on the interest as I go along or I pay all the tax later (but I can't touch the money for almost 40 years).
I can't see why anyone would want to do this unless their company was matching contributions. As a self-employed person, I don't see the point.
Try to convince me otherwise?
jasonHoldEm
12-03-2005, 05:57 PM
Sadly I'm not an expert, but I believe IRA cotributions are deductible (so you reduce yoru income and play less taxes) and it grows tax free (i.e. the "income" generated between depositing and w/ding when you're 60 or whatever cycles through tax free so more money is going back into the IRA so with compound interest you make more money).
So yeah...it's basically the way to go for long term investments. If your situation is unique (or hell, even if it isn't) you should talk to someone smarter than an internet message board.
J
[ QUOTE ]
Okay, I'm doing my taxes for '05 and I am trying to understand the logic behind an IRA. Why would I want to put 40k (I think the maximum is) into an IRA?
Sure, I don't have to pay taxes on it now, but I will when I withdraw it, correct? So what's the point? I either invest it on my own, pay taxes on the principal now, and pay taxes on the interest as I go along or I pay all the tax later (but I can't touch the money for almost 40 years).
I can't see why anyone would want to do this unless their company was matching contributions. As a self-employed person, I don't see the point.
Try to convince me otherwise?
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Compound interest(growth) is a beautiful thing. Add tax-free on top of that, you get the picture.
TheMetetron
12-03-2005, 06:01 PM
The only thing I am "sort-of" able to get is that instead of paying taxes on the interest each year, all the interest goes back in and compounds, and you pay taxes on the total at the end.
I guess this let's you compound faster, but I'm not sure how much of an incentive that actually turns out to be since I can't touch the money until I'm 60 and I have to pay 10% if I decide I want to use it for something else.
I'm thinking saving to buy a house is the smarter move for now.
playersare
12-03-2005, 06:03 PM
Neteller > IRA
jasonHoldEm
12-03-2005, 06:12 PM
(Not trying to be a smartass here just make a point).
Your 60-year old self will need money too, and you probably won't want to work anymore by that point in your life. I also believe you're misunderstanding the tax issue, you only pay taxes on the income you pull out at the end, not income generated (at least I'm 99.9998% certain).
The key is getting the money into your longterm savings as soon as you can, the sooner it gets there the more money you'll make. $10k a year for 25 years at 8% will give you almost a million with only about 1/4 of that being money you actually "spent" on your investment. Not a bad deal.
J
EDITED TO ADD: For comparison sake, $10k/year x 35 years @ 8% would give you about 2 million. See what I mean about starting as soon as you can? Also, you can usually do better than 8% which just makes the piles of money bigger.
NSchandler
12-03-2005, 06:27 PM
Because by delaying paying taxes on your contributions and your interest, you can accumulate interest on money that you otherwise would have paid in taxes.
Suppose your marginal rate is 30%. You have $1000 pre-tax. You invest your money at 10% per year. You can invest $700 today ($1000*(1-t)), and it will turn into about $5,329 after 30 years, assuming you pay taxes annually on the interest accrued.
Now suppose you have the same $1000 pre-tax, but invest it in an IRA, where both your contributions and the interest you earn are tax-deferred. The $1000 turns into $17,449, but you'll have to pay 30% taxes on the entire sum at this point, leaving you with $12,215.
The benefits will be even greater if your current marginal tax rate is higher than the marginal rate you expect to pay when you're retired (a reasonable assumption, since your retirement income will most likely be lower than your current income).
I would actually recommend a Roth IRA over a traditional IRA because you can effectively contribute more per year, since contributions are after-tax rather than pre-tax. Roth IRAs work slightly differently, but it's the same basic logic. With Roth IRAs, you pay taxes on your contributions now, but interest accrues tax-exempt, rather than tax-deferred. Mathematically, as long as your current marginal tax rate is equal to the marginal tax rate you expect to pay when you withdraw the money, there is no difference between contributing $1000 pre-tax or $700 after-tax - they will both accrue to the same $12,215 after taxes. But, you can only contribute $4000 per year (it's increasing every year) to your IRA accounts. Contributing to a Roth IRA effectively allows you more contributions since you're contributing after-tax rather than pre-tax income.
There are also SEP-IRAs, that allow you to save up to 25% of your income, $42,000 max per year. I'd talk to a professional about all of this, but this is the jist of it.
Hope this helps.
You don't pay taxes on the interest you receive from investments. When you withdraw them you pay capital gains on your capital gains.
You can put 4k into a Roth IRA which allows you to put in after-tax dollars and let them grow tax free. I think you can put over 10k into a regular IRA and that is with pre-tax dollars.
This doesn't take into account an SEP, Keough, or Simple. But first off if you're earning under 100k a year and under 30. You need to max your Roth IRA contribution each and every year.
Siegmund
12-03-2005, 06:30 PM
You get to CHOOSE when you want to pay the taxes! There are two kinds of IRAs.
The traditional thinking is that you want to defer taxes now, while you have a relatively high income, and then withdraw the money after you retire to a more modest way of life and fall into a lower tax bracket.
On the other hand, if you are young / poor / already in a low tax bracket now and have aspirations of being rich later... or if you are a cynic who thinks tax rates are going to be significantly higher in 30 years than they are now ... you open a Roth IRA instead of a Traditional IRA, and make after-tax contributions now, so that you can withdraw both principal and interest tax free later.
itsmarty
12-03-2005, 06:31 PM
An additional benefit is that you expect your 60 year old self to be in a lower tax bracket. If not, there's no reason to pull the money out and he can leave it until your 65 year old self wants it, etc.
This could change with the tax code, obviously, but rarely does it change to negatively affect old people who have money (aka voters).
Martin
BradleyT
12-03-2005, 06:39 PM
Wow there is so much wrong information in this thread it should be deleted.
Go to the Stock Market Forum and look for posts about IRAs if you want some truthful information.
it is definitely EV+ to use an IRA for retirement savings. if your tax rate is 33% you can invest 30k into IRA as opposed to 20k into regular inv vehicle, and the compound interest on that extra 10k is awesome. your earnings from dividends will also be much higher as it is not taxable, and you will earn compound interest on that. there are many IRA calculators that will run sims on this sort of stuff for you and you're going to be shocked at the results.
max them out.
depending on how much you make this year vs how much you expect to be making at retirement it might make more sense to open a roth IRA
LondonBroil
12-03-2005, 06:56 PM
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Wow there is so much wrong information in this thread it should be deleted.
Go to the Stock Market Forum and look for posts about IRAs if you want some truthful information.
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Okay, I'm doing my taxes for '05 and I am trying to understand the logic behind an IRA. Why would I want to put 40k (I think the maximum is) into an IRA?
Sure, I don't have to pay taxes on it now, but I will when I withdraw it, correct? So what's the point? I either invest it on my own, pay taxes on the principal now, and pay taxes on the interest as I go along or I pay all the tax later (but I can't touch the money for almost 40 years).
I can't see why anyone would want to do this unless their company was matching contributions. As a self-employed person, I don't see the point.
Try to convince me otherwise?
[/ QUOTE ]
With a traditional IRA, the main advantage for some like you (that seems to make a lot of money), is that if you are in the highest tax bracket today, you can invest to get maximum tax savings today, and then when you retire, or if your income drops significantly when your older, you can withdraw from the IRA at a reduced tax rate.
For example -- when you invest now you save 35% on taxes. When you make withdrawals when your older you might only have to pay 20% tax on your withdrawals -- plus the money grows tax free until you make a withdrawal. (i'm not sure on what the tax brackets are -- the numbers i used are just an example).
TheMetetron
12-03-2005, 07:35 PM
[ QUOTE ]
Wow there is so much wrong information in this thread it should be deleted.
Go to the Stock Market Forum and look for posts about IRAs if you want some truthful information.
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I haven't even read the rest of this thread, but I'll follow your advice and just a search there. I don't want innacurate information to screw with my mind.
TobDog
12-03-2005, 07:51 PM
There are 3 types of IRA's from what I remember being told, if your income is over a certain level(its like 120k) you dont qualify for the other 2, the most commonly used ones. Traditional IRA=you deduct the income for this year and pay it when you retire/take the $ out, ROTH=you pay taxes this year on the $ you invest, and the $ it makes is tax free, there are maximums for these per year and they are not very high, you will want to have a personal investment account too. What everyone else said here too, get some good advice from someone who does that type of thing for a living.
TheMetetron
12-03-2005, 08:04 PM
I started a thread in the Stock Market forum to hopefully get some better answers.
I don't qualify for a Roth IRA, as I make too much.
Also, as a 60 year old, I don't anticipate making less than I do today. If I do, I screwed something up.
I'm fairly certain if I put my investment into a mutual fund or some other stock/bond account, I don't have to pay taxes until I withdraw (capital gains at 15% of the money earned) so compounding isn't an issue. It seems like with a traditional IRA my earnings are taxed at my income tax rate.
I understand it's tax-free now and all that... but having to hold onto the money until I'm 60 with no leeway for investing it somewhere else (house, business, etc) seems like too high of a price to pay for very little benefit.
Anyways, respond in Stock Market if you have any further thoughts.
TStoneMBD
12-03-2005, 08:12 PM
im pretty sure if its a self directed IRA that you can buy a house with it. it might have to be a rental property/flipping deal though im not sure. you can also borrow against the self directed IRA. if you borrow against it at like 6% interest and youre making 10% interest on the money in your IRA youre actually making 4% profit on your money while being able to spend it ahead of time. you could basically borrow against your IRA to buy a house and your interest in the IRA could excede your mortgage loan.
Sniper
12-03-2005, 09:37 PM
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I'm fairly certain if I put my investment into a mutual fund or some other stock/bond account, I don't have to pay taxes until I withdraw (capital gains at 15% of the money earned) so compounding isn't an issue.
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A mutual fund will generally throw off taxable capital gains and dividends every year.
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I understand it's tax-free now and all that... but having to hold onto the money until I'm 60 with no leeway for investing it somewhere else (house, business, etc) seems like too high of a price to pay for very little benefit.
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Your IRA is an asset that you can borrow against!
I've also responded in the stock market forum (http://forumserver.twoplustwo.com/showflat.php?Cat=0&Number=4094032&an=0&page=0#Post 4094032) with a bunch of links to more info.
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I'm fairly certain if I put my investment into a mutual fund or some other stock/bond account, I don't have to pay taxes until I withdraw (capital gains at 15% of the money earned) so compounding isn't an issue. It seems like with a traditional IRA my earnings are taxed at my income tax rate.
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You don't get it. The money you put into your IRA is PRE-TAX dollars.
Scotty O
12-03-2005, 11:28 PM
My only advice is to start investing taxfree as young and as much as possible. The difference between starting to invest tax free at the age of 20 and 30 is incredible. It could be the difference of 2-4 Million dollars by age 60.
If I could drop 40k into an SEP-IRA at a young age I would have done so.
Good Luck
Scotty O
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