An aspect of successful investing can be using legal tax deductions to your advantage in order to maximize your annual returns. While many people think about the New York Stock Exchange, real estate, and other investment methods when they consider investing, it’s also important to understand how to utilize an IRA in an attempt to build your own net worth. IRAs can be useful tools for investors who are looking for a way to further diversify their portfolio. Not only should you understand how to use an IRA, but also, how to use the tax advantages associated with them.
What is an IRA?
The acronym “IRA” is short for Individual Retirement Account. These accounts are similar to 401ks but differ in the fact that 401ks are generally sponsored by the investor’s employer, while IRAs are simply savings accounts that investors can use as a means to build additional funds for retirement. The qualifications for opening an IRA are minimal. In fact, anyone who earns an income is eligible to open one of these accounts. Additionally, since IRAs don’t rely on an employer, investors can open those accounts up at virtually any bank, credit union, or through a personal broker.
Why Use IRAs?
IRAs can be an investment tool for those who are looking for a way to increase their retirement savings while still allowing their money to work for them. For instance, if you choose a Roth IRA, you collect interest on your investment. To make things even better, you can then earn interest on your interest. Hypothetically, let’s say that you open an IRA account at age 25. If you deposit $6,000 per year over the course of the next 40 years, that contribution could grow to a little more than $89,000. Obviously, the earlier you start investing in an IRA, the better the earning potential. However, it’s never too late to start contributing to an IRA. If you started contributing to one at age 50, adding $7,000 annually to the account, you could earn around $19,000 by the time you’re 65. In addition, you can earn interest on your contributions, further increasing your wealth.
Are There Contribution Limits to an IRA?
Under the current Federal Tax Code of 2023, there are contribution limits that dictate the maximum amount that you can add to an IRA in a given year. According to the 2023 Tax Code, eligible investors can contribute $6,500 per year to their IRA. That number increases for older investors. For investors who are 50 or older, the maximum allowable annual investment for an IRA is $7,500 per year.
Are IRA Investments Tax Deductible?
One of the most important pieces of information for any investor revolves around whether their investments are tax deductible. Additionally, it’s important to know if certain percentages of an investment are tax deductible. Knowing how to legally manage your investments can put you in a better position to keep more money in your pocket at the end of every year. Ultimately, the answer to this question isn’t a definitive yes or no. Instead, according to the official IRS website, your traditional IRA contributions may be tax deductible. However, there are certain times where those deductions are not applicable. For instance, if you or your spouse are covered by an employer-sponsored retirement plan or your income exceeds predetermined levels, your investments may not be tax deductible.
All investments should be considered through the lens of legality, especially when considering tax breaks associated with certain types of investments. While investors should educate themselves on the ins and outs of tax laws concerning investments, it’s also a good idea to discuss the legalities with an industry professional or an attorney.