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IRA stands for individual retirement account. Basically, the US government decided that they would give you a little tax break if you decided to save for retirement instead of spending all your cash.
In all simplicity, a Roth IRA is just an account. The only difference between the accounts are the rules. Playing around with different accounts is similar to playing different games. Should you choose to properly play the Roth game, you will find that it is a powerful, wealth-building account.
Since the Roth IRA was designed by the US government, there are a lot of arbitrary rules and regulations set in place. However, some of them may make sense if you keep in mind the intent behind the Roth IRA — which is to create an incentive for retirement saving.
Because the Roth allows you to grow your money tax free, the government loses out on significant tax revenue. In order to control this, they set rules as to if and how much you can contribute. In order to fully contribute to a Roth IRA the normal way i. However, if you are wealthy and have an awesome income fear not, for the US is a country made by the wealthy, for the wealthy. However, discussing that loophole involves discussing other financial accounts, which is beyond the scope of this post.
Basically, what happens is that the government sets a limit, and then raises that limit every couple of years due to inflation. Also, if you noticed, there is a different limit for people above age 50, lets talk about that.
Some people learn to be financially savvy later on in their life. In their early years they decide to save less and enjoy more. However, as retirement approaches, these people decide to start saving.
In addition to the limits discussed earlier, there is another contribution limit. Well, you are only allowed to contribute the lesser of the following:. It would make sense to think that you must contribute to your Roth in the same year that you want to contributions to count i.
However, the US government set up a weird little loophole around this. You can contribute for the previous calendar year up to April of the current calendar year. Typically, retirement accounts have heavy penalties if you withdraw money before reaching a certain age. To understand the withdrawing rules related to a Roth IRA, we need to understand the difference between principal and earnings.
The total value of your Roth IRA is comprised of two things, your principal and your earnings. Your principal is what you originally put into the account. Your earnings is the amount that your Roth IRA grew by. Anytime you want as long as you can convert whatever is in your Roth IRA to cash.
You need to first sell the securities to obtain cash. Then you can take the cash out. Withdrawing earnings in a Roth IRA is a bit more nuanced than withdrawing principal.
After you become For example, if you start a Roth at age 55, you will need to wait until you are 60 to withdraw earnings without penalty. This means that whenever you get a dividend cash payment or realize a capital gain i.
This allows your account to compound and grow exponentially faster than usual. If you do this by accident, you can take advantage of the roll-over rule , which prevents you from facing penalties as long as you refund your Roth within 60 days. However, you can only do this once per year so be careful!
Whew, those were a lot of rules! Whether or not you should open a Roth IRA depends on your financial situation, so telling all of you to go and immediately open a Roth would be disingenuous. I have not fully investigated all of the following options. This is probably the most boring Roth IRA investment you can make. Basically, you deposit some cash into a Roth IRA. From the Roth IRA, you deposit the cash into a bank and promise to leave it there for a while.
The bank then pays you a slightly higher interest rate than you would get from a normal savings account. When people talk about investing, stocks are probably the first thing that comes to mind.
A self-directed brokerage account is an account that you can use to purchase just about any traded security, stocks, bonds, mutual funds, ETFs, etc. This is probably the best type of Roth IRA to open because it gives you the most investment choices. Peer to peer lending is an interesting investment option for a Roth IRA that has only recently come about.
Basically, you turn into a bank and loan strangers your money. After some time, the borrowers pay you back plus interest. However, I have not tried out other custodians so I have no perspective as to whether or not schwab is a good custodian.
In the end, the Roth IRA is just a game with some really weird rules. Should you choose to play by the rules, and or push them to their edge you will be rewarded significantly through tax-free growth. Although the Roth IRA does not make sense for every single individual, it will heavily benefit those who expect to increase their earning potential further down their careers and are willing to learn how to invest. The Roth IRA is a powerful tool, and its up to you to use it. December 30, at 2: I enjoyed the analogy of principle and earnings to the family of giraffes.
My main question is if using a lending club as a mean to start a Roth IRA is similar to buying bonds? The way you defined what a lending club is seems pretty similar to investing in bonds.
December 30, at 5: Yes, you can think of lending club as investing in bonds. However, the main difference is who you are investing in. With most bonds, you are usually investing in institutions, like companies or the government. With lending club, you are investing in people. I barely scratched the surface of lending club in this post.
February 24, at 6: Your article is very thorough, but I suggest elaborating on a seldom discussed aspect of IRAs; rollover contributions. I swear, no giraffes were harmed in the creation of this graphic. Austin Rosen December 30, at 2: Akash Sky December 30, at 5: Jason February 24, at 6: Leave a Reply Cancel reply Your email address will not be published.
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