Years and years ago, I started my first IRA when I was in my 20s. I am going to date myself, but it was back when interest rates were double digits. I still remembered how excited my husband and I were when we each invested $2000 into our Individual Retirement Accounts or IRAs.
A traditional IRA is basically an account that allows you to set funds away for retirement and the money will grow tax deferred, meaning you won’t have to pay income taxes on it until you take it out. In addition, you are able to deduct that investment from your income on your tax return. It’s a pretty cool deal especially if you start saving when you are very young.
Take a look at this chart on Dave Ramsey’s website called Junior’s Clubhouse that shows not only the power of compound interest, but the power of starting early. I was so excited to have found this chart. I suggest that you print it out and share it with all the young people that you know.
Secret of Compound Interest:
In the link above, basically the first person starts their IRA with $2000 at age 19 and stops at 26 (total investment is $16,000). The second person waits till they are 27 and continues to save until they are 65 (total investment is $76,000). At age 65:
- the person who invest $16,000 has $2.2 million
- and person who invested $76,000 has $1.5 million
Why is this? It’s because of the power of compound interest and starting early!
Those IRAs that my husband and I started at age 26, would be worth $28,000 today each at a 10% return. This is just one terrific way to accumulate wealth.
There are 3 mistakes that I see people make with their IRA accounts:
- The first mistake is to simply not have one. One of the big issues is see with many women is that they love to make money and they love to spend it. Saving let alone investing is not a big agenda item. If you are earning money and do not have a tax deferred retirement plan, I suggest going to your financial planner or your bank immediately and setting one up. You can talk to the advisor about the appropriate type of IRA because there is also a Roth IRA which does not get a tax deduction, still grows tax deferred and the income comes out tax free. The advisor can also help you select an appropriate investment vehicle for the IRA account. Sometimes you can set these up with very little money and even add as little as $100 per month. Just get started.
- The second mistake I see people making is not being diversified. Again, get some advise on how to invest your money. There are mutual funds and Exchange Traded Funds that operate like a mutual fund by giving you diversification. The goal is to have variety of investments based on your age and risk tolerance. In addition, you want to look at the investment cycles. Right now, bonds have been on a 30 year bull cycle because of falling interest rates. Investing in bonds at this time could actually be very risky because when interest rates go up, bonds can lose a lot of value. So please get some advise from an expert and then re-balance your portfolio annually.
- The last mistake people make is with their beneficiaries. Just this week, I was reviewing my Self Directed IRA account where I own real estate and a non publicly traded stock. When I opened the account, the company was called Entrust. A few years later, Entrust was taken over by Quest IRA. To my surprise, Quest did not have my beneficiary designation on file. It always makes me chuckle when I see something like this happening to me because I am a Certified Financial Planner and should know better, right? So with all the consolidations and mergers, it’s really important to check out those beneficiary designations. IRAs avoid probate and in many cases when structured appropriately, the tax benefits can roll over to the recipient at death. If the beneficiary designation is not correct, it can have dreadful tax consequences.
So those are my 3 IRA tips: Start one — Diversify — Update those Beneficiaries.
I will go deeper on these topics in future articles. If you have any questions feel free to make a comment or schedule a complimentary consultation at www.talkwithkatana.com