Updated on 11.18.06

Facing My Financial Fears: Roth IRAs

Trent Hamm

This week, The Simple Dollar is doing a five part series on financial topics that scare me just a bit. Researching and then writing about them will (hopefully) alleviate some of that fear  Other fears include buying a car.

Even when I was at the worst of my overspending habits, I always contributed enough to my 403(b) and other retirement plans to earn the employer match. I could never argue against a 100% immediate return on the money I put into those plans.

I started putting 6% into a 403(b) at age 23, which was completely matched by my employer. After changing jobs three years later, I put in 5% into that plan, which was completely matched by my employer. Assuming an 8% return on my investment (a pretty low expectation, considering it’s all in index funds), I could start withdrawing my full salary from these plans indefinitely starting at age 60. I figured it was more important to pay off debts and other things than invest in another retirement plan.

As I grew older, started a family, had a child, found myself in the pit of financial despair, and began to dig myself out of it, I began to realize that I did need to invest more of my money for the future, but I still couldn’t see why anyone would want to invest even more for retirement.

There were two things blindsiding me. First, I was still stuck in the mentality that income tax was just another paycheck deduction. I didn’t consider that tax rates might go up over time or that my income might push me into a higher tax bracket. Until recently, income taxes were merely something that went away every paycheck to some magical, mystical place, and when I filled out forms early in the year, I might get a little bit of them back – but maybe not. Roth IRAs basically commit some of your money to staying at the interest rate you’re paying now – which I believe will just go up over time as I move up in income. If that proves to be true, Roth IRAs are actually a way for me to save on income tax when I get older.

The second factor was that I was content to keep my current income level in retirement. There was no thought of the possibility of a wealthy retirement, with a nice big house with grandchildren running around and a beautiful place to spend twenty years of retirement with my wife. Right now, since I’ve paid off my high-interest debts and I’ve not yet really considered a house purchase, I have the ability to put plenty into a Roth IRA, which will do nothing more than enable me to afford a beautiful house for me and my wife to grow old in together.

So I’ve made up my mind: starting in January, I’m going to open a Roth IRA and contribute $80 a week to it. I’m not going to start one this year because I have my budget to the end of the year completed (so I can manage holiday spending), but I am finally ready to take that leap and get a Roth IRA.

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  1. I think Vanguard is a great place have an IRA. The problem is they have raised their minimums so it is harder for someone just getting started to invest with them. I think I read somewhere that Scottrade has pretty low minimums.

  2. Amy says:

    You can put money into a 2006 IRA until tax day 2007. So, if you wanted to put more than $4000 into a Roth over the next 12 months…..

    Just a thought.

  3. Super Saver says:

    A Roth IRA is a great deal because future tax break of no income tax. I believe it also has special withdrawal options, without penalty, for events like the purchase of a new house or higher education.

  4. Lisa says:

    Trying to understand Roth IRAs. What is w/ the magic $4000 amount? I had a DAve Ramsey financial planner tell me to do it, but it was unclear whether I should do through his office & he hasn’t responded to my “ready to go” email. Any thoughts?


  5. boardmadd says:

    The ROTH IRA $4,000 limit for 2007 is exactly that, it’s a federal mandated limit. The good news is that the limit is being raised this year, so that you can contribute up to $5000 if you are 49 and under, and $6000 if you are 50 and over. After 2008, contribution limits are set to raise $500 based on inflation (not sure if that’s an annual increase or just put in place if and when inflation calls for it).

    You can only contribute the federal limit to a ROTH IRA per individual in any given fiscal year (April 16th 2008 – April 15th, 2009 is the “fiscal year” of 2008 as far as the government is concerned). The good news is that, if you are married, you can contribute to the maximum for both people.

    The ROTH IRA is, when you get right down to it, the best deal for saving for retirement there is. 401(K)’s, other retirement plans, and Traditional IRA’s are “tax deferred”, so while you are getting the benefit of not claiming that money as taxable *today*, you *will* pay the taxes for it later when you start to withdraw it.

    With a ROTH IRA, you do not get any up-front tax benefit from it, you can only fund ROTH’s with post tax dollars. The beauty of it is that any and all growth in the ROTH IRA is earned TAX FREE. That means that all of the money that goes in is allowed to compound and you are allowed to take distributions at retirement (when you choose to, there’s no mandated distribution times) with no taxes :).

  6. boardmadd says:

    Note for the above comments, you still hav eto wait until retirement age to take distributions from a ROTH IRA without incurring penalties, but once you reach that age, you can take distributions as you need them, and they will be tax free distributions.

  7. Wendy says:

    You can take out any contributions you put into the Roth IRA at anytime, as long as you don’t touch the interest it has earned.

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