A fantastic investment education piece by Bankrate featured today on Yahoo Finance on retirement terms. Especially for younger investors just dipping into the basics these are critical to know and understand.
A Individual Retirement Account, also know as an IRA allows participants to take advantage of different tax savings and more importantly enjoy compounded growth over the number of years invested in the account.
1. Adjusted gross income, or AGI — Used to calculate federal income tax, your AGI includes all the income you received over the course of the year, such as wages, interest, dividends and capital gains, minus things such as business expenses, contributions to a qualified IRA, moving expenses, alimony and capital losses, interest penalty on early withdrawal of bank CD certificates and payments made to retirement plans such as SEP and SIMPLE IRAs.
2. Contribution — IRA contributions are limited to $5,000 for the 2008 tax year if you’re younger than 50. If you’re 50 or older, you can contribute as much as $6,000 for the 2008 tax year. The limits are the same for 2009. Contributions are classified as either tax deductible or nondeductible.
3. Deductible or nondeductible — Contributions to a traditional IRA are tax-deductible if you are not covered by your employer’s retirement plan. Even if you do participate in a company pension or 401(k) plan, you still may be able to deduct contributions to a traditional IRA depending on your income and filing status. Contributions to a Roth IRA are not deductible.
4. Education IRA — Renamed Coverdell education savings account, in honor of the late Sen. Paul Coverdell, this is not strictly an IRA, since it doesn’t finance retirement. Instead, you can make annual contributions, of up to $2,000 per child, to an account that’s exclusively for helping to pay education costs. The money you put aside in a Coverdell account doesn’t count against the annual retirement IRA contribution limits for you or your child. You can’t deduct the Coverdell contributions from your income taxes, but earnings are tax-deferred and qualified withdrawals are tax-free.
5. Individual retirement account, or IRA — IRAs are retirement accounts with tax advantages. You may contribute up to $5,000 in 2008. Or, if you’re 50 or older, you can put aside up to $6,000 for that tax year. But your contributions can’t exceed your earned income. The investment grows tax-free until you begin making withdrawals, usually after age 59½. Take money out before then and you will usually get hit with a 10-percent penalty unless you meet certain specified requirements.
The last 5 terms not mentioned here are Modified adjusted gross income or MAGI, Required minimum distribution, Rollover, Roth IRA, Tax and penalty-free withdrawals. Read the article on Yahoo Finance to get the last 5 definitions.
Just from the above we can take away some great key facts to summarize:
- Adjusted Gross Income, AGI, is used to calculate your Federal tax bracket.
- IRAs have max contributions of $5,000 in 2008 for those under 50.
- Traditional IRAs grow tax-free until withdrawals start being made usually after age 59.5.
- There is a 10% penalty for early withdrawal.
- The difference between Roth and Traditional is Traditional is pre-tax contributions so taxes are paid at the end once withdrawals begin whereas a Roth is after tax contributions so there are no taxes taken once withdrawals begin.
Aren’t retirement accounts easy now?
10 Must-Know IRA Terms
Kay Bell of Bankrate.com
Yahoo Finance, Wednesday, February 11th, 2009