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Roth Individual Retirement Accounts require investors to pay taxes on the contributions they make now, rather than when they withdraw them in retirement. This tradeoff means that after-tax dollars grow tax-free for decades.
The Roth can be a powerful tool for young investors. Young investors often start their careers with lower salaries and are placed in lower tax brackets. And they’re probably in a lower tax bracket than they were later in their career.
“For young professionals, a Roth IRA is an incredible savings vehicle because given our earnings, there’s a very good chance they won’t be taxed at the top rate,” says Bone Fide Certified Financial Officer – Clifford Cornell, Planner and Associate Financial Advisor said. New York wealth.
Roth IRAs also tend to be good for younger savers because they have income limits on eligibility for single and married filers, he said.
Original contributions to a Roth IRA can be withdrawn at any time without penalty, making it a great tool for long-term goals or short-term emergencies. However, if you withdraw earnings from your account too early, you will incur a penalty.
Here are three more important strategies I learned or remembered as I prepared to open a Roth IRA.
1. Investors can make prior year contributions before the end of tax season. Experts say that by the end of tax season, April 15 of this year, you should save money that counts from the previous tax year into a Roth IRA.
“During January [1] And on April 15th, you will technically be able to make contributions for both 2023 and 2024,” said CFP Tommy Lucas, registered agent at Moisando Fitzgerald Tamayo in Orlando, Florida. .
2. You cannot take a deduction, but you may be eligible for a credit. Unlike a traditional IRA, you can’t take a tax deduction for contributions to a Roth. But there are perks that are often overlooked, Lucas said. Roth savings count toward the so-called Saver’s Credit, which is available to low- and moderate-income taxpayers.
“Depending on your income level, you could get $1 back for every $2 you put in,” he says. “It’s actually really nice to have the money tax-free and basically be able to receive some matching contribution from the IRS.”
3. Don’t forget to invest your funds. This was a great reminder for me, especially after seeing my initial deposit remain in my account as cash for 24 hours. To grow your money, it’s not enough to simply fund your account. You have to invest money. (Not doing so is actually a common mistake.)
“A Roth IRA is like a label on your account, and you still have to invest,” Cornell said.
There are many investment products to choose from, but ask yourself two important questions: “How hands-on do you want to be? What is your risk tolerance?” Cornell said.
Lucas explained that younger investors can invest more aggressively because their savings ideally won’t be used for 20 or 30 years.
“Diversification will yield results in the long term,” he said.
Investors can build their own portfolios or delegate the decision-making process to account managers or robo-advisors. From there, you can determine how the after-tax amount will grow over time.
About 56% of Gen Z adults (ages 18 to 26) did not have enough savings to cover three months of expenses, according to a Bank of America survey conducted in August.
Reading these reports can sometimes feel like looking in a mirror, and the famous lines from Taylor Swift’s song “Antihero”: “It’s me, hello. I’m the problem, it’s me.” Sometimes I feel like I’m even watching the famous line, “It’s true.”
To address this issue, I chose a high-yield savings account. Penalty-free withdrawals are typically limited to a certain amount per month, but these accounts are an ideal nest for emergency funds, sinking funds, or funds you’ve saved for larger goals like homeownership. There is a possibility that it will be.
There are two things you need to know about opening such an account.
1. Compound interest doesn’t create money overnight. When it comes to compound interest, it depends on the bank or financial institution you choose. But Lucas said 5% interest is typically an annual rate, not a monthly rate.
For example, if you deposit $10,000 into an account that earns 5% APY, you’ll earn $500 worth of interest, Lucas said.
“So instead of $500 a month, it’s $500 a year. And that’s assuming the interest rate on your high-yield savings account stays the same,” he said.
2. The IRS wants the following information: The tax office considers the money you earn from compound interest as income. If your interest income exceeds $10, your bank will notify the IRS, which will send you a 1099-INT form, Lucas said. Even if your income is less than that, you still have to report it on your taxes.
“The IRS knows you earned $500 in interest on that, so you have to pay taxes on it,” Lucas said.
Still, he added, “that’s much better than a 0.5 percent return on a checking account.”
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