Saving for retirement is something everyone knows they should do, no matter what age. However, many people fail to start early and then find themselves trying to catch up, tucking as much as possible into their 401(k) at work or into IRAs. The problem is, even if you have access to large amounts of expendable cash to invest, there’s a limit to how much you can invest into any type of retirement plan in a single year.
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For 2015, the limit for 401(K), 403(b) and most 457 plans is $18,000. The total contribution, employee and employer, can be as high as $53,000. People over 50 still have an opportunity to make a catch up contribution of $6,000, which helps but if you’ve ignored retirement planning until you’re almost ready to retire, it’s not enough. People contributing to an IRA can invest $5,500 with a catch up investment of $1,000. Unfortunately, some people don’t have access to a 401(k) or employer sponsored plan and have to use an IRA for investing, so for them, finding alternatives for retirement is important.
Annuities make a good alternative for retirement savings. The money is available at 59 ½ without penalty and the funds grow tax deferred. Unlike regular retirement plans, if you don’t need the money by 70 1/2, you don’t have to take it. If you have funds in a rollover IRA, traditional IRA or employer sponsored retirement plan, you must take a specified amount based on federal calculations every year starting at 70 ½ or face paying a penalty. When you remove the funds from a traditional retirement account or company sponsored retirement account, you pay taxes on the amount you withdraw, which is why some people wait to remove funds. If you don’t need to remove funds, you can leave them in the annuity for as long as you like. When you remove the money from an annuity, the last amount into the annuity is the first to come out. Since interest or growth is the last in, it’s considered the first out and therefore any growth is taxed, with principal not taxed but taken after the growth.
If you don’t have a retirement plan at work, an IRA is a good alternative. There are two types of IRAs, a Roth IRA and a traditional one. The traditional IRA allows you to take the amount you invest off your taxes, so basically you’re putting funds in tax free. However, with every benefit you have to give something back in return. In the case of the traditional IRA, you pay a penalty if you remove the funds before 59 ½ and you pay taxes on everything each time you remove money. The second type of IRA is a Roth IRA. You get no tax benefits from a Roth initially, but there are benefits. While you don’t get to take the amount you invest into the Roth off your taxes, you never pay taxes on the growth. If you remove funds from the Roth before you’re 59 1/2, you only pay a penalty on the growth of the fund, not the initial investment.
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Choosing the right type of IRA should be based on your age and your income. If your income is high and you need a tax savings, a traditional IRA may be best. If you’re older and won’t have much time for the funds to grow, a traditional IRA is also best. However, for those who are young, putting money into a Roth is normally the best solution for retirement planning. You never pay tax on the growth if you’re older than 59 ½ when you take it out and you don’t have to take the funds if you don’t want to do that. Rather than save the small amount of tax you’d pay on the funds initially, you’ll save thousands of dollars of tax on the growth later.