It’s no secret that Americans struggle with saving money, especially for retirement. If you want to retire at the age of 65 and maintain your standard of living, you’ll need to save at least 10 to 17 percent of your annual income. Although it may seem overwhelming at first, you can get a head start by knowing the different types of retirement plans.
When creating a retirement plan, use this guide to understand your options so you can feel prepared and excited for the future.
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Traditional IRA
IRA stands for Individual Retirement Account. Traditional IRAs are mostly opened and managed by people themselves; they’re a tax-favored plan that is appealing if you don’t have access to an employer’s 401(k).
There are a lot of similarities between a traditional IRA and a 401(k). Both have similar tax advantages, and there are age restrictions for contributions and withdrawals. In some cases, you can contribute to both a 401(k) and an IRA, but you’ll need to be careful because your IRA contributions may not be tax-deductible if your income is under a certain amount.
401(k)
If you’re an employee, your employer’s 401(k) could be a convenient retirement plan option. Many companies try and make them easy to set up and manage.
A 401(k) is a retirement plan offered by most for-profit businesses as an employee benefit. Generally, you’re allowing part of your paycheck into a retirement plan.
Similar to most other retirement plans, a 401(k) provides tax advantages by reducing your taxable income. Remember to do your research beforehand, especially about net unrealized appreciation.
Roth IRA
The biggest difference between a traditional IRA and a Roth IRA is when you get the tax benefits. With a Roth IRA, you pay taxes on the money you contribute, but you can withdraw money tax-free at retirement. This means that every dollar in your bank account goes into your pocket.
With a traditional IRA, you don’t pay any income tax on your contributions, but you do pay tax when you withdraw.
When you decide between a Roth IRA or a traditional IRA, figure out if you expect to be taxed at a higher or lower rate when you retire.
SEP IRA
A SEP IRA (Simplified Employee Pension) is a particular type of IRA that is mainly used by small business owners or self-employed people. Employers like these retirement plans because they can be cheaper and easier to operate than traditional 401(k) plans.
A SEP IRA works similarly to a traditional IRA, but the SEP IRA has the advantage of allowing you to contribute much more to your retirement savings.
Different Types of Retirement Plans
Your employment circumstances might dictate what retirement plan you’ll be investing money into. Some can be set up by an individual, and others are offered by employers.
Knowing the different types of retirement plans is an important step in controlling your finances and feeling ready for the future. As intimidating as it may seem at first, all you need is a little bit to start.
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