What is an IRA? - YouTube

- IRAs, what's an IRA?

Let's talk about IRAs.

An IRA is an individual retirement account.

It's a financial account with tax features

that help individuals save for retirement.

Now there's a traditional IRA

and there's also what's called a Roth IRA.

Now these are the two major types.

There are other ones, which I'll touch on later,

but this presentation basically talks

about these two types because this is

what covers most of the population

and what concerns most of us.

So, the traditional IRA allows for tax deferred growth

and there is a tax deduction, with limits,

which we need to consider, while a Roth IRA

offers tax free growth.

Now, it's not tax deductible, but it does have

that tax free growth element which is very attractive.

So, a traditional IRA in 2019, lets you contribute

up to $6000, or $7000 if you're over the age of 50

and it's the same thing with the Roth IRA,

$6000 or $7000 if you're over the age of 50.

So, the traditional IRA offers a tax deductibility,

but it is phased out based on your modified

adjusted gross income or MAGI or MAGI,

whatever you wanna call it, if your workplace

already has a defined retirement plan,

such as a 401K or things like that.

The Roth IRA, your total contribution

can be phased out based on your modified

adjusted income amount.

The deduction phase out for singles is

between $64,000 and $74,000 of adjusted gross income.

Basically what that says is once you hit

that $64,000 income level, then the amount

that you're gonna be able to deduct

from your taxes for the traditional IRA,

the tax deductibility element, is going to be reduced,

a little bit until you hit that $74,000 threshold

and then it's not deductible at all for you.

And then for married, filing jointly,

the amount is $103,000 to $123,000,

and that's the phase out.

Now, on the Roth IRA the contribution phase out

for a single person is $122,000 in income.

So again, you can contribute up to the $6000 limit

up unto an income level of $122,000, but if you make

over $122,000, then the amount

that you can contribute is reduced.

So that $6000 would be reduced to $5000

if you make a little bit over $122,000.

And if you make $130,000, then you may be able

to contribute let's say $1000 instead of $6000

because they really phase you out

and if you make over $131,000, then you can't

contribute at all to a Roth IRA.

None of the $6000 is available, although there is

a back door Roth IRA option that you could take.

And then, for married, filing jointly,

the phase out is between $193,000 and $203,000.

So again, if you're under those limits

you can contribute the full $6000 that is available,

otherwise that $6000 is reduced by a certain

dollar amount once you hit these thresholds

and that's what you need to understand.

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- [Instructor] For a traditional IRA let's make

some assumptions here.

Let's say your income was $64,000.

So, if you did not take a traditional IRA

contribution deduction your adjusted gross income

would remain at $64,000, and given tax rates

for 2019, I believe the taxes due on that $64,000

would be about $9,939.

Now, if you decide to withhold $6000 or some amount,

or deduct it from your income because you

wanna participate in a traditional IRA

that is deductible, then your $64,000 income

will be reduced by the $6000 contribution you make

or whatever the amount is, which will leave you

with adjusted gross income of $58,000.

And that $58,000 would be then subject to tax.

Your taxes due on that would be about $8,619,

which means because you made that contribution

to a deductible traditional IRA,

you lowered your tax bill by $1320.

So, you're paying less to Uncle Sam

and he's allowing you to invest

that amount of money in some sort

of income generating vehicle

for your retirement.

On the other hand, because it's

a tax deduction, this really is

a tax deferral, so that $6000 and anything

that is to be made on it over the years

in income will be taxed later on in your life as income.

So, keep that in mind.

If you don't pay now, you're gonna pay later.

That's always the case, right.

The deduction phase out does start at $64,000 in 2019,

but just because you make more than that

doesn't mean you can't participate in the IRA

to the fullest, even if only part of your

IRA contribution qualifies for the traditional

tax deductible type, let's say in this case,

let's say you're only able to deduct $3000

from your taxable income as part

of a traditional IRA contribution,

you could still put in another $3000

into a Roth IRA because you do have

that $6000 total allowable to you,

or $7000 if you're over the age of 50.

So, you could still participate

to the fullest in both regards.

So again, the traditional IRA offers you

tax deferred growth, but it will be taxed

when you take it out and there are limits

as to what you can put in.

Whereas the Roth IRA, tax free growth,

tax free when you take it out

and it is not tax deductible though on the front end.

So with a traditional IRA, like I said,

it is taxed as income when it is withdrawn later in life.

Now you cannot withdraw it until you're

at age 59 and a half or else you will have

to pay a penalty as well as income taxes on that amount

and you are forced to start taking withdrawals

at the age of 70 and a half.

Whereas on the Roth IRA, it's tax free

when you withdraw it, although you still

have to be age 59 and a half to avoid penalties.

You can withdraw your original contributions

at any time, tax free, so that's a bonus,

but you must wait til 59 and a half

on gains or pay taxes plus the penalty.

The good thing is there's no mandatory withdrawal age.

So you don't have to withdraw from your Roth IRA

at age 70 and a half like you do

with your traditional IRA.

So, from an income tax standpoint,

is there really a difference between investing

in a traditional IRA versus a Roth IRA?

Let's take a look at some numbers.

Let's say you have $1000 worth of income

that you can put into a traditional IRA account,

or $1000 worth of income which you can invest

into a Roth IRA account.

Let's assume the current tax rate due

on any income for you is 25%.

So, if you decided to put $1000

into a traditional deductible IRA account

you will not be taxed on that $1000.

It's tax deferred.

Whereas, in a Roth, since it's an after tax

investment vehicle, that $1000 worth of income

would be taxed at 25% which would leave you

$750 to put into your Roth account.

Let's say today you can either put $1000

into your traditional IRA or $750 into a Roth.

Let's assume over 30 years both of those accounts

will grow at a 7% compounded average rate of growth

and at the end of 30 years in your traditional IRA

you would have $7612, whereas in your Roth,

having invested only $750, you would have $5709

in that account.

However, on your traditional deductible IRA

you still owe income taxes on that,

so at the end of 30 years let's say you decide

to take it out of your account, you're gonna owe 25%,

if that's the tax rate at that time still.

That tax will be $1903 taken out of your $7612,

which would leave you $5709 of net funds available.

Whereas in your Roth your $5709 in your account

is not taxable, there's no tax due,

so your net proceeds are $5709.

You will see they are equal at the end of 30 years.

That's assuming that the tax rate did not change

between when you put it in and when you took it out.

Now, if your taxes are higher in the future,

then obviously this amount, this $1903

is going to be higher, which is going to lower

your net funds available, which will then make

this number lower than your $5709 over here.

So, whether or not to choose one or the other

or one over the other is really based

on what you think your future tax rate is going to be.

If you think your taxes are going to be higher

in the future, then you may want to pay your taxes now,

via a Roth, so that when you do hit the future

your income and all the interest you've earned

on your investments are tax free.

So those are the key things to remember.

Really, from a tax standpoint, if your taxes

are the same now and later, there's no difference

in terms of what you're gonna net out.

But, if your taxes are higher in the future,

your Roth IRA's gonna work out better.

If your taxes are lower in the future,

which I guess could happen, then your

traditional deductible IRA would actually be

a more favorable investment.

So that's what you really need to keep in mind

and think about when you're choosing

between the two if you need to choose between the two.

So, one thing I want to add is that contributions

for any given year can be made as late as April 15th

of the following year.

So for instance, your 2019 contribution can be made

as late as April 15th of the year 2020,

so that's a cool feature.

So, I've been discussing the two most common types

of IRA accounts, the traditional versus the Roth IRA.

It's important to note that there are some other

versions of the IRA out there.

I just wanna touch base on them.

Under the umbrella of a traditional IRA nomenclature,

not only is there a deductible version,

which I've been talking about, but there's also

a non-deductible version which obviously means

it's not deductible from your taxes,

so it does not give you any tax shelter.

There's no reason to put money into this one

except for certain cases because the Roth IRA

allows you to dump your extra available balance

that you can put into an IRA account into it,

so I would say deductible first, Roth IRA second,

and then you can also make contributions to non-deductible.

There are certain cases, but you can

explore that further on.

Unless you run into your income limits

and you cannot deduct and you cannot qualify

for a Roth IRA, then the non-deductible IRA

contribution makes sense and I could touch

on that in another video or you could do

some research on the internet and find out

about what they would call a back door Roth IRA.

There's also things called SEPs and SIMPLEs

for small businesses and the self-employed,

and not really within the scope of what I wanna talk about,

but those are some options that you can explore.

And then, you may have heard of IRA rollovers.

That's just basically taking a 401K plan fund

that you have at an employer and when you leave

that employer you have an option

of taking those funds and rolling

it into an IRA account and then

you can either make that just

a traditional IRA account

or you can convert it into a Roth

by paying taxes on the amount in that account.

And that's out of the scope

of what I wanna talk about today as well,

but you can always look up more information

on those or I may cover them in a future video.

We'll see.

Now your head may be spinning from all that information.

I hope not.

I hope I was able to educate you

on some level as to the benefits

and drawbacks of both accounts.

Really, IRAs are great things to have

and I really like the Roth IRA

because of its tax free nature later on in life

and I would recommend that you get

into an IRA of some sort, whether it's

a traditional deductible or a Roth IRA.

Start saving money.

They're easy accounts to open.

You can do it at any brokerage

and you can do it for no fees

or very low fees, so I encourage you to do that.

If you have any other questions please let me know.

Go ahead and write some comments down below.

Tell me if you already have a Roth IRA

or a traditional IRA opened or what your plans are

or what questions you might have

and maybe I can answer them for you.

If you like this video I'll keep making more videos.

Hopefully you can subscribe

if you like to see my content

and I hope I can entertain as well as inform.

Let's not be fools with our money,

but let's be smart and let's get rich.

But anyway, have a great day.