On the radio, Java and I sat down to discuss the ever-looming topic of retirement. This itself is a big topic with a ton of branches, but the callers made the show (as ever). We had calls about mortgages, getting kids interested in investing and some technical points about retirement accounts. I'll break down the show here, and flesh out some of these topics later!
The Alphabet Soup of Retirement Accounts
To start, we had to discuss the jargon that everyone encounters when opening accounts. There are IRAs, Roth IRAs, 401(k)s, SIMPLE and SEP IRAs, 403(b)s and governmental 457s, to name a few. The important thing to remember is that there are essentially three styles of account:
- Regular/Taxable. This is just a plan vanilla account. It can be in your name or you and a partner (individual or joint). There are generally no special tax rules or limits for putting money in or taking it out. You get no tax benefit to put money in, and none for taking money out. It is like a bank account where you only have to pay taxes on the income within the account. If you invest this money, there may be some tax advantages depending on what you invest in, some bonds pay interest tax-free, most stocks and stock funds grow and the gain that you earn isn't taxed until you sell it, giving you control of when you owe your taxes, and may have a favorable tax rate on that gain.
- Tax Deferred. This is an important one to retirement as it is classically the style of most employer retirement accounts like the traditional 401(k). Like the name suggests, this account allows you to defer income for tax purposes. You put money in this year, reducing your income for tax purposes and saving money on your taxes. You can invest the money and let it grow tax free while you don't need it. When you take money out in retirement, it counts as income. Since this account has special tax benefits, it also has tax limits. You are limited in the amount you can actually defer, and there are penalties for taking money out before retirement age.
- After Tax or Tax Free. This is a Roth style account and its tax treatment is the reverse of the tax deferred account. You put money in after you have paid taxes on it, it is tax free all while it remains in the account, and you do not pay taxes on qualified withdrawals. This is another style of retirement account and is becoming a more common feature of 401(k)s as well. Since there are special tax benefits, there are also limits on how much you can contribute and rules on when you can take the money out.
- IRA contribution limits, for Roth or Traditional, are $6,000 with a $1,000 additional catch up if you are over 50.
- 401(k) and similar plan employee contribution limits are $19,000 with a $6,000 additional catch up if you are over 50. The maximum, including employer contributions, is $56,000.
- SIMPLE IRA employee contribution limits are $13,000 with a $3,000 additional catch up if you are over 50.