Individual Retirement Accounts

Lesson

Individual Retirement Accounts (IRAs) are tax-advantaged investment vehicles designed to help individuals save for retirement. We will cover the different types of IRAs, their tax benefits, and withdrawal rules.

Practice Question #1

Which of the following is a key difference between a traditional IRA and a Roth IRA?

A) Contribution limits

B) Tax treatment of contributions and withdrawals

C) Required Minimum Distributions

D) Both B and C

Select an option above to see an explanation here.

A) Contribution limits are the same for both traditional and Roth IRAs. B) Traditional IRAs allow for tax-deductible contributions and tax-deferred growth, while Roth IRAs allow for after-tax contributions and tax-free growth and withdrawals. C) Required Minimum Distributions apply to traditional IRAs but not Roth IRAs. D) Both the tax treatment and RMD rules differ between traditional and Roth IRAs.

Terms

Traditional IRA:: A tax-deferred retirement account allowing individuals to contribute pre-tax income, which grows tax-deferred until retirement.
Roth IRA:: A retirement account that allows individuals to contribute after-tax income, which grows tax-free and can be withdrawn tax-free in retirement.
Contribution limit:: The maximum amount an individual can contribute to an IRA each year.
Deductible contributions:: Contributions to a traditional IRA that can be deducted from an individual's taxable income.
Non-deductible contributions:: Contributions to a traditional IRA that cannot be deducted from an individual's taxable income.
Required Minimum Distribution (RMD):: The minimum amount must be withdrawn from a traditional IRA each year, starting at age 72.
Early withdrawal penalty:: A 10% penalty is applied to withdrawals from an IRA before the age of 59.5, in addition to regular income taxes.
Qualified distribution:: A tax-free withdrawal from a Roth IRA, provided certain conditions are met.

Practice Question #2

What is the penalty for withdrawing funds from an IRA before the age of 59.5?

A) 5% penalty

B) 10% penalty

C) 15% penalty

D) 20% penalty

Select an option above to see an explanation here.

A) The penalty is not 5%. B) The early withdrawal penalty for IRAs is 10%. C) The penalty is not 15%. D) The penalty is not 20%.

Historical Example

In 1997, the Roth IRA was introduced as part of the Taxpayer Relief Act, providing a new option for individuals to save for retirement with tax-free growth and withdrawals.

Practice Question #3

Which of the following is NOT a requirement for a qualified distribution from a Roth IRA?

A) The account must be at least five years old.

B) The account owner must be at least 59.5 years old.

C) The account owner must have a minimum income of $100,000.

D) The account owner must use the funds for a first-time home purchase.

Select an option above to see an explanation here.

A) The five-year rule is a requirement for qualified distributions. B) The age requirement of 59.5 is a requirement for qualified distributions. C) There is no minimum income requirement for qualified distributions. D) Using the funds for a first-time home purchase is one of the exceptions for qualified distributions.

Real-World Example

Jane, a 30-year-old with an annual income of $50,000, decides to open a Roth IRA and contribute $6,000 annually. By the time she retires at age 65, her account has grown to over $1 million, and she can withdraw the funds tax-free to support her retirement expenses.

Practice Question #4

Become a Pro Member to see more questions

Example Series 65 Example Practice Question

Thresholds to Remember

- 401(k) contribution limit: The maximum amount an employee can contribute to their 401(k) plan each year, as set by the Internal Revenue Service (IRS). - IRA contribution limit: The maximum amount an individual can contribute to their Individual Retirement Account (IRA) each year, as set by the IRS.

Practice Question #5

Become a Pro Member to see more questions

Example Series 65 Example Practice Question

Threshold Examples

- 401(k) contribution limit example: The amount individuals can contribute to their 401(k) plans in 2023 will increase to $22,500 -- up from $20,500 for 2022 (contribution limits are periodically adjusted for inflation). - IRA contribution limit example: For 2023, the total contributions each year to traditional IRAs and Roth IRAs can't be more than $6,500 ($7,500 if aged 50 or older).