Many individuals use an Individual Retirement Account (IRA) as a versatile platform for investing in stocks, mutual funds, CDs and real estate – providing more choice than what would be available through workplace retirement plans like 401(k).
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Your money invested in an IRA or Roth IRA grows tax-deferred or, depending on which option you select, tax-free – just decide how to move it there first!
1. Convert It
If you are leaving your job, your assets in a Thrift Savings Plan (TSP) have four possible courses of action available to them: you could leave them where they are if permitted by your new employer, roll them over into an IRA, transfer them into another retirement account such as a 401(k), or cash them out (with early withdrawal penalties applying if withdrawn prior to age 59 1/2).
An Roth conversion may be worthwhile if your stocks appear poised for growth and your current tax bracket is lower than it will be upon retirement. Unfortunately, however, timing the market can be tricky and downturns could still occur even after making this change – for this reason it may be better to stick with your investment strategy so when withdrawing money in retirement the taxes that apply only then.
2. Roll It Over
Direct transfer (or rollover) moves your funds directly from one account into the other without incurring taxes or penalties, ensuring that your retirement investments continue growing and unhindered by taxes or penalties.
To avoid taxes and penalties, your funds should be placed into another tax-deferred retirement account within 60 days of receiving them – such as your new employer's 401(k) or an IRA – so as not to incur current income rates and an early withdrawal penalty before age 59 1/2. If not done, taxes would apply at current income rates plus an early withdrawal penalty of 10% would also be levied against you.
IRAs offer more investment flexibility than 401(k) plans, including holding your IRA as a self-directed individual retirement account (SDIRA). An SDIRA allows you to invest in alternative assets such as real estate, mortgages and private equity; however, you should be mindful of any additional risks involved with such investments; additional fees typically apply when selecting an SDIRA custodian to manage them.
3. Take a Distribution
An Individual Retirement Account, or IRA, can be an essential savings tool for working individuals without access to workplace retirement plans, or those seeking to supplement existing plans. Traditional IRAs allow them to reduce taxable income while Roth IRAs provide tax-free withdrawals after reaching a certain age threshold.
IRAs also provide more investment options than many workplace retirement plans, including access to more mutual funds than available through employer-sponsored plans and target-date funds that work toward your expected retirement date.
Keep in mind, however, that IRAs have stringent distribution rules. If you withdraw before age 59 1/2 and incur ordinary income taxes and possibly a 10% penalty unless an exception applies; such as being in the military and called to active duty for more than 179 days or using your funds to pay unreimbursed medical expenses that exceed 7.5% of adjusted gross income.
4. Reinvest
Rolling over an existing retirement account such as a 401(k) or 403(b), from your former employer into an IRA gives you more freedom with how and where you invest your funds while also maintaining its tax-advantaged status, provided you adhere to IRA rules.
Reinvesting your IRA rollover could include choosing low-cost index mutual funds or ETFs that suit your asset allocation and risk tolerance, or investing via a self-directed IRA that allows for the investment in alternative assets such as real estate or private equity.
Keep this in mind when rolling over direct and indirect IRAs: it is imperative that you follow IRS rules so as to avoid taxes and penalties that might otherwise incur. Otherwise, early withdrawal penalties or taxes due on distributions could prove costly – something any prudent investor would strive to prevent from happening.