Individual Retirement Arrangements IRA

An Individual Retirement Arrangement (IRA) is an account for an individual which is specified for retirement savings. However, these accounts can get pretty confusing. So let’s talk about them!

IRAs can come in two flavors: “Traditional” IRA and “ROTH” IRA

Traditional Individual Retirement Arrangement accounts have similarities to a 401k but they are very different. Unlike a 401k, which must be offered by the place you work in order to enroll, a Traditional IRA can be opened with a broker.

1. Income taxes are deferred, meaning you can write them off for the year you contribute money into the account.
2. The taxes will only be assessed at the time of withdrawal.
3. Required Minimum Distributions (RMD), that is, a percentage amount you must take out of your account, begin at age 73.
4. There is no income limitation to contribute to a Traditional IRA, BUT there is an income limitation to take tax breaks on contributions.

Roth Individual Retirement Arrangement accounts are named after Willam Roth, a U.S. senator who played a large role in creating the account type in 1997.

1. Income taxes are assessed at the time of contribution, meaning your money is taxed when you put it into the account.
2. No taxes are taken when you withdraw money in retirement assuming you meet appropriate distribution rules such as:
   • The account has been open for five years.
   • You are 59 and a half at time of withdrawal.
3. ROTH IRAs do not have required distributions for the account holder at any time during their life. Only beneficiaries on ROTH IRAs are required to take distributions.
4. There are income limitations which can restrict contribution to a ROTH IRA.
   • For 2025 they are as follows
     • Single: $150,000
     • Joint: $236,000

If you make above these amounts, check the range for the year of contribution. It may mean you are eligible for reduced contribution amounts OR none at all.

If your spouse is able to contribute to an IRA and you are not, you may contribute to an IRA up to the married limit for the year.

Regardless of how many IRA accounts you hold or the type of IRA they are, the maximum amount you can contribute to all of them collectively per year is defined by the IRS.

For the year 2025 the total limit for all IRA contributions was $7000

There is a catch up contribution for anyone aged 50 or older, which allows slightly more than the total limitation for IRAs to accommodate for less time to contribute prior to retirement. This amount is also defined by the IRS.

There are some exceptions to the early withdrawal rules which allow you to withdraw up to certain amounts for certain exceptions. The most common exceptions are:

• First time home purchase ($10,000)
• Birth/Adoption expenses ($5,000)
• Death, disability, terminal illness
• Qualified educational expense
• Certain specific medical expenses
• Health insurance (given you are unemployed)

Lastly, contributions for the previous year’s IRA may be made until tax day of the following year. 

Example: Say it is December 31st, 2025 and you wish to max out your Roth contributions, but you will be $500 short prior to the end of the calendar year. You can make this contribution for 2025 until taxes are filed in 2026 without penalty.

Since ROTH IRA distributions are not taxed at the time of withdrawal, they are not counted as income when they are withdrawn assuming you meet the requirements.

Since it is not counted as income, you can use the ROTH IRA to adjust tax liability when you retire. An image is a better representation of this:

The amount of an RMD from traditional accounts can put you above tax brackets which can increase what you owe. Instead, proportional withdrawals from multiple accounts will reduce liability below thresholds. The far right illustrates that the ROTH withdrawal prevents us from hitting the last bracket where the traditional and savings account, taken individually or together, would be liable.

If you want some more reading on these topics here are a few links to Fidelity, Vanguard, and the IRS. Keep in mind both Fidelity and Vanguard are brokerages so they want relationships with individuals with funds. The IRS has less biased information but has much more complex language.

https://www.fidelity.com/retirement-ira/ira-early-withdrawal

https://www.fidelity.com/viewpoints/retirement/tax-savvy-withdrawals

https://investor.vanguard.com/accounts-plans/iras

https://www.irs.gov/retirement-plans/individual-retirement-arrangements-iras

As always, good luck on your finance journey!
From my mind to yours!

~Jay

I enjoy sharing what I have learned through my own personal finance journey!