Ch. 12:  Individual Retirement Accounts

12.0 Introduction

            We start our analysis of tax shelters with the most widely available tax shelter in the United States—the individual retirement account (IRA).  Just about anyone with earned income can make IRA contributions and just about everyone is wise to take advantage!  While one can contribute to an IRA on both a traditional or Roth basis, the Roth IRA offers a unique feature that makes this shelter far more useful for most investors. 

12.1 Basics of an IRA

            Unlike most tax shelters, IRA plans are available to just about everyone because they are not tied to employment (like 401(k), 403(b), and 457(b) plans) or your health insurance election (like HSAs).  As such, IRA plans are often the only tax shelter that younger citizens, like (income-earning) college students, have at their disposal.  In 2024, the maximum IRA contribution for most is $7,000.  While you may choose to make traditional or Roth contributions, this limit is a combined maximum.  This means that a person who has made $6,000 in Roth IRA contributions can only make $1,000 in additional contributions, be it traditional or Roth.  However, to use an IRA, one must have earned income in the contribution year.  If you’re a full-time college student that has not earned any income, you’re out of luck.  If your income is less than $7,000, then your income serves as your maximum IRA contribution.  For example, a student earning $3,200 in 2024 may contribute, at most, $3,200 to their 2024 IRA.

            Because IRAs are not connected to your employer, you have the option of choosing any vendor that you like.  Just about any local or regional bank can open an IRA account on your request, but these firms usually charge high fees so it’s probably best to avoid banks.  Instead, you probably want to choose one of the low-cost vendors that I’ve pimped several times in this book already.  I use Vanguard, but there’s nothing super special about this investment company.  Fidelity and Charles Schwab are just as good, if not better.  (And I’m sure there are more.  Feel free to drop me a message if you think there are others that deserve a shout-out.)  Since you can choose any vendor you like, there’s no excuse to pay high fees or to pick a plan that doesn’t suit your needs. 

            For most tax shelters, the traditional/Roth distinction merely reflects the tax characteristics of the plan.  For example, traditional and Roth 401(k) plans are identical aside from how the accounts avoid taxes.  But IRAs are unique in that the rules of the traditional and Roth IRAs differ—it’s almost as if traditional and Roth IRAs are totally different shelters.  The most important difference involves the accessibility of funds.  Generally speaking, one cannot withdraw from a traditional IRA (and many other retirement vehicles) until age 59.5.  However, you may withdraw contributions from a Roth IRA prior to 59.5.  An example: Suppose you make a one-time $5,000 contribution to a Roth IRA at age 25.  Ten years later, your account has grown to $8,000.  At this point, you are freely allowed to withdraw up to $5,000 without any taxes or penalties.[1]  If you withdraw $5,000, the remaining $3,000 will continue to grow and can be withdrawn at age 59.5.  This is a massive perk. 

            The flexibility afforded by Roth IRAs cannot be overstated.  Anyone that values tax avoidance and liquidity should find the Roth IRA as an unmatched investment vehicle.  Young investors will find these plans especially useful.  For example, consider a newly employed 23-year-old investor.  Such an investor has many years to grow their wealth, but likely has large purchases in front of them—automobiles, a downpayment on a house, etc.—which will require a liquidation of assets.  They also don’t know what the future holds.  During a recession, newly hired workers are often the first to be laid-off, which will, likewise, necessitate the liquation of funds.  For many reasons, this investor desperately needs liquidity and Roth IRAs are the only tax shelter that allow for hassle free withdrawals without taxes or penalties.  Furthermore, young investors are usually in a low tax bracket, which makes saving future taxes (via a Roth) more important than reducing current taxes (through a traditional shelter).  The Roth IRA is so good that it’s feasible (likely?) that you’ll never use a traditional IRA, so most of my focus in this chapter will be firmly on the Roth version of individual retirement accounts. 

12.2 General Rules of a Roth IRA

Who can contribute?

• Just about anyone, but there are a couple of exceptions.  High income earners—specifically those with a modified adjusted gross income (MAGI) above $161,000 (single) or $240,000 (married, filing jointly)[2]—are not allowed to contribute to a Roth IRA in 2024.  Couples that file their taxes as married filing separately are not permitted to contribute to a Roth IRA unless one has a MAGI below $10,000.[3]

How (and when) are the plans taxed?

• From a tax standpoint, Roth IRAs work like any Roth accounts.  Contributions to a Roth IRA have no impact on current taxes.  The tax benefit of a Roth IRA comes later—withdrawals from a Roth IRA are not taxed.  So you can contribute to your Roth IRA today and never worry about taxes.  Furthermore, transactions and dividends earned in a Roth IRA do not trigger taxable events.  As with all nearly all tax shelters accounts, Roth IRA contributions do not have any impact on Social Security or Medicare taxes either.

How much can be contributed?

• The maximum contribution for individuals under 50 is the lesser of their income or $7,000.  For individuals 50 and older, the maximum contribution is the lesser of their income or $8,000.  Note that the income in question is earned income from employment.  Investment income (e.g. ordinary dividends) does not count as eligible income for IRA purposes.

When can you contribute?

• You have until April 15th of the following year to contribute to this year’s IRA.  For 2024, you can contribute as early as January 1st 2024 or as late as April 15th 2025 (tax day).  You may contribute as late as April 15th, 2025 even if you file your 2024 income taxes prior to this date.  Between January 1st and April 15th of a given year, you have the option to contribute both to last year’s and this year’s Roth IRA.  In such a scenario, you should always choose to contribute to last year’s account first.

What can I invest in?

• Unlike other tax shelters, IRAs are not connected to employment.  So you can use any vendor you like and will have far more investment options.  Furthermore, unlike other plans, IRAs allow for the trading of individual stocks.  But, in my opinion, you’re still best-off buying index funds or target date funds.  Because you can choose your own vendor, you should be able to invest with very low fees.  This makes the Roth IRA a great option for individuals who are employed by a firm that utilizes a high-fee vendor.  Because of the flexibility afford by IRA accounts, you’re usually better off contributing to a Roth IRA instead of other Roth accounts unless these alternative accounts offer a company match.  Once your Roth IRA is maxed-out, you can then explore other Roth opportunities.  But fill-up the Roth first!

When can you withdraw?

• You can withdraw contributions at any time for any reason.  For interest-earned, you must wait until age 59.5 to withdraw penalty and tax-free.  To withdraw before age 59.5, you will need to fill-out a form 1099-R and submit it when you file your taxes.[4]  Completing this form is a piece of cake.  There are other exceptions where you may be able to withdraw earnings from your account prior to age 59.5.  For example, you can withdraw up to $5,000 in earnings penalty-free in the year that you have a child.  However, you’ll pay income taxes on such a withdraw so this is a dumb idea. 

Do Roth IRAs have RMDs?

• Many accounts, like traditional 401(k) and traditional IRA plans, require investors to make annual withdrawals from their account once they hit a certain age (73 for many).  The withdrawals are called required minimum distributions (RMDs[5]).  This is not desirable—by forcing a withdrawal, the government is requiring you to create a taxable event.  If you fail to make the required withdraw, the IRS will penalize you harshly.[6]  Thankfully, Roth IRAs do not have RMDs… another nice perk.

12.3 Using a Roth IRA optimally.

            You’re a college senior, working part-time.  In 2024, you’ll earn about $14,000.  You have $12,000 in a checking account and you’re thinking… hmm, I’d really like to invest $4,000 of these funds so that I can earn some interest.  Many will choose to contribute to a brokerage account.  That’s not ideal, since any dividends earned in this account will trigger a taxable event and if you sell stock in the future for a profit, you will again trigger another taxable event.[7]  Roth IRAs allow you to avoid these taxes.  So instead of using a brokerage account, you choose to invest $4,000 in your 2024 Roth IRA.  Is this permitted?  Yes.  With an income of $14,000, you’re permitted to contribute as much as $7,000 to your account.  You decide to open a Roth IRA account using Fidelity.  You make a direct transfer from your checking account to your Fidelity Roth IRA, which will take a couple of days to process.

            So now you have $4,000 in your Roth IRA, but you’re not done yet.  You need to make an investment election.  If you do not provide further instructions, your funds will likely be held in a money market mutual fund[8], which is basically a super safe, low-return investment.  You decide that you are young enough to take-on maximum risk.  You allocate 75% of your investment ($3,000) to Fidelity’s no-cost total US stock market fund (FZROX) and 25% ($1,000) to their no-cost international stock market fund (FZILX).  That’ s hard to beat.  You might alternatively choose to use a target date fund, which levies a 0.16% expense ratio—good, but not great.[9]  You can probably find a better target date fund at another vendor, but no worries.  You can always move your IRA to another vendor in the future.  You find a fund that you want now and sleep well knowing that you can always change vendors if your investment needs evolve.  Given your low income and corresponding low tax bracket, Roth contributions are ideal.  By using a Roth IRA today, you choose to fully pay income taxes for 2024, but will never be taxed on this money again.  You can withdraw from your Roth IRA in the future when your income is high without concern for creating additional taxes.  Excellent!

            Over the years, you continue to make contributions and in 2033, you find that your Roth IRA now has $61,255 in it.  Nice!  But you need to put a downpayment on a house.  Specifically, you need $90,000 in three weeks, when you will close on your new home.  How much can you withdraw from your Roth IRA?  To answer this question, you need to find-out how much you have contributed to your Roth IRA.  You spend a few minutes checking your account history and realize that you have made $44,000 in contributions.  This is your maximum allowable withdrawal.  Before withdrawing money, you should first exhaust other options.  Have money in a savings account?  Brokerage account?  These funds should probably be liquidated first.  Your Roth IRA offers amazing tax savings, so it’s best to leave your Roth IRA alone if you can.  After withdrawing $70,000 from your brokerage account[10], you are left with a $20,000 need—you withdraw $20,000 from your Roth IRA.  The $20,000 is deposited into your checking account.  The remaining $41,255 in your Roth IRA remains untouched and continues to grow over time.  When you file your taxes in early 2024, you need to include a 1099-R form so that the IRS is made aware of your withdrawn contributions (otherwise, they will assume it’s a withdrawal of earnings, triggering taxes and penalties).  Well done.

            Note that you never need to withdraw from your Roth IRA.  The scenario above shows how a Roth IRA can be used to access funds, but the tax-sheltered nature of a Roth IRA means that it will serve you well as a full-on retirement account.  But it’s nice to know that the account is there if you need it.  I view my Roth IRA as an invested emergency fund.  If I suddenly have a $20,000 expense that I was not prepared to pay, my Roth IRA is always in my pocket.  But I will only access my Roth IRA funds if it’s truly a necessity to do so. 

12.4  IRA Rollovers

            In chapters 13 and 14, we will learn about employer provided retirement plans—401(k), 401(a), 403(b), and 457(b) plans.  These tax shelters are very useful, but don’t have the liquidity of a Roth IRA or the flexibility of investment options.  A friend of mine works for a small company that uses one crappy vendor.  Every investment offered by the vendor charges an expense ratio above 1%.  Robbery I tell ya.  But my friend still (wisely) contributes to their 401(k) because their employer offers a lucrative match. 

            At some point in the future, my friend will leave his company and find a new job.  He will then have the option to do a rollover IRA.  Specifically, he can move the money (“rollover”) from his 401(k) into his IRA account.  In doing so, he can now choose whatever vendor he likes and wave goodbye to those 1% expense ratios.  If done properly, this IRA rollover will not trigger a taxable event, nor will it count against his contribution limits.  The taxable nature of his 401(k) will be held intact; for example, if he holds $80,000 in a Roth 401(k) and $20,000 in traditional 401(k), his rollover will leave him with $80,000 in a Roth IRA and $20,000 in a traditional IRA.  Thus, there is no direct tax benefit of a rollover.  Rather, the investor chooses to do so to (a) increase their low-cost investment options or (b) consolidate their funds into one account.  Over the course of your career, you may have a handful of 401(k) and similar accounts.  By rolling these funds into one IRA, you will make your financial situation more manageable.   

            Unfortunately, rollover Roth IRAs do not offer the liquidity benefit that direct Roth IRA contributors enjoy.  Remember how you can withdraw contributions made to a Roth IRA at any age?  This does not apply to rollover IRAs.  For rollover IRAs—be it Roth or traditional—withdrawals cannot be made until age 59.5.  Oh well.

***BEWARE:  Slimy financial planners representing a vendor may encourage a client to move money from a 401(k) account (where it can’t be managed) into a rollover IRA where they manage the money and levy fees.  Not all financial planners and advisors are slimy and not all rollover recommendations are a money-grab, but tell your friends and family to be careful!***

12.5  What about the traditional IRA?

            For me, the benefits or a Roth IRA—namely the ability to withdraw contributions—make this account too good ignore.  It’s not that I don’t want to use a traditional IRA; rather, I have more to gain by using a Roth IRA.  In 2024, I will contribute $7,000 to my Roth IRA, leaving no room for traditional IRA contributions and I will sleep well knowing this was unquestionably a smart move for me.  There are some specific individuals that might benefit from a traditional IRA such as those that are married filing separately, who are generally not allowed to contribution to a traditional IRA.  But most won't.  Why?  Well... there are income limits (modified AGI limits to be exact) that disallow traditional IRA deductibility for folks that are in high tax brackets--they can put money in a traditional IRA but won't reduce their taxes making the traditional IRA useless.  There are some advanced considerations that may allow the traditional IRA a weapon for some, but I'm choosing not to explore those niche situations here.

12.6 Conclusions

            If you do things right, you’ll learn to love your IRA—especially the Roth variant.  Roth IRAs offer the tax savings of other Roth accounts while providing valuable flexibility.  And if you have income, you can start contributing right away!  *Sigh*  If only I could go back in time and contribute to a Roth IRA in my early-20s. 

12.7 My Roth IRA Account

            Before I let you go, let’s take a quick look at my Roth IRA account.  I’m not doing anything special, but I think it’s helpful to see an account in-the-flesh. 

Figure 1:  My Transaction History

Because I was financially illiterate buffoon, I didn’t start making IRA contributions until the ripe old age of 32.  For the 2017 year, I maxed-out my Roth IRA account ($5,500 at the time) via two transactions. Take note that the transaction on 01/05/2018 was contributed to my 2017 IRA. 

In 2019, I made a significant withdrawal from my account as my wife and I made a downpayment on a house.  Since this was a withdrawal of contributions, this withdrawal did not trigger any taxes.  On 04/01/2019 and 04/08/2019, I was able to make two last-minute contributions to my 2018 Roth IRA, reaching my $6,000 maximum for that year and I’ve maxed out my Roth IRA in every year since.  I continue to prioritize my Roth IRA above most of my other tax shelters.  So, barring disaster (or a big raise), I will continue to max-out my Roth IRA each year.

Figure 2.  My investment elections

Simple.  Almost all my Roth IRA is invested in VTSAX, a low-cost total US stock market index fund.  As I age, I may change my elections.  (I also have one lonely and unimportant share of VPL, which I purchased simply because I had like $80 in cash in my account, which wasn’t enough to buy a share of VTSAX, but could afford a share of VPL.)

Figure 3.  Investment Performance

My account is representative of a normal stock market investing experience.  There are lots of ups and downs, but I’ve earned an annual return of 10.3% over the course of my investing period.  The investing profit (at this point, $13,427.66) cannot be withdrawn until age 59.5.

Key Terms

Individual Retirement Account (IRA):  Read the chapter, you lazy bum.

Requirement Minimum Distribution (RMD):  The federal government requires investors to withdraw from many tax-sheltered accounts when the investor reaches age 73.  These mandator withdrawals are called RMDs.  Traditional IRAs have RMDs (bad).  Roth IRAs don’t (good).

Rollover IRA:  Various employer-provided retirement accounts can be rolled-over into an IRA upon separation in employment (e.g. if you get laid-off or quit).  By rolling a 401(k), for example, into a rollover IRA, the investor has more investing options and can avoid investing fees.

End Notes

[1] If you withdraw earnings, the earnings will be taxed as income and garner a 10% fee.  Bad times.  For example, suppose you make a one-time $5,000 contribution today.  In five years, your account is now worth $6,000.  If you withdraw $6,000 from the account, the $1,000 in earnings (profit) is taxed as income and is subject to a 10% early withdrawal fee.

[2] There are ways around this.  Learn more here. 

[3] You read that right.  If you have an income of any amount greater than $10,000 and are married, filing separately, Roth IRA are simply not an option for you.  But, filing separately is unusual.  Here are some reasons why a person might choose to do so. 

[4] In 2019, I withdrew contributions from my Roth IRA without submitting a 1099-R… I simply didn’t know the form was required.  A few months later, I received mail from the IRS stating that I owed them several thousand dollars in fees and taxes.  I provided proof of my withdraws and submitted my (late) 1099-R form and the IRS let me off the hook.  No big deal.

[5] I’ve decided to not spend much time on RMDs.  Most of my readers are young and who knows what the future holds for RMDs.  Here is a decent discussion. 

[6] Learn about RMD penalties here. 

[7] Remember that a taxable event does not always lead to taxes.  For example, a low income individual can earn a qualified dividend without paying taxes.  But as your income rises, these tax-free taxable events will likely disappear. 

[8] Not to be confused with a “mutual fund”. 

[9] Source. 

[10] Keep in mind that you will likely have to pay taxes on profits generated in this account.  That’s okay.  It’s better to pay taxes on the brokerage account now so that you can keep as much money in your Roth IRA as possible

[11] Workers with a 401(k) plan can contribute up to $23,000 to a traditional 401(k).  Thus, they have plenty of bandwidth for traditional contributions afforded to them before it’s necessary to entertain using a traditional IRA.  I, like many, use my IRA for Roth contributions only and make any traditional contributions in my employer-sponsored plans.  

Practice Problems

***For all questions, assume that there are no available tax deductions***

1.       In 2024, Greg is single and earns $107,000.  He contributes $5,000 to a Roth IRA.  Solve for his federal income taxes in 2024.

2.       In 2024, Amauri is single and earns $407,000.  He contributes $5,000 to a Roth IRA.  Wait a sec… what’s wrong this this scenario?

3.       In 2024, Erin is single and 27 years-old, earning $48,000 as a librarian.  She contributes $7,000 to a Roth IRA.  In a taxable account, she earns $500 in ordinary dividends and $2,000 in qualified dividends. 

a.       Solve for her 2024 federal income taxes.

b.       Solve for her 2024 federal capital gains taxes.

c.       Solve for her 2024 Social Security taxes.

4.       In 2024, Erin is single and 27 years-old, earning $48,000 as a librarian.  She contributes $7,000 to a traditional IRA.  In a taxable account, she earns $500 in ordinary dividends and $2,000 in qualified dividends. 

a.       Solve for her 2024 federal income taxes.

b.       Solve for her 2024 federal capital gains taxes.

c.       Solve for her 2024 Medicare taxes.

5.       In 2024, Hannah earns $2,800 as a part-time employee.  She wants to fund her IRA.  Should she make traditional or Roth IRA contributions?

6.       In 2024, Hannah earns $2,800 as a part-time employee.  What is the maximum contribution she can make to an IRA?

7.       In 2024, Haley earns $280,800 as an architect.  She wants to fund her Roth IRA.  What is the maximum contribution she can make to an IRA?

8.  In 2024, Beatrix contributes $4,000 to a Roth IRA.  In 2025, she contributes $6,000 to a Roth IRA.  These are the only two contributions she ever makes.  In 2040, at the age of 48, she has $26,000 in her Roth IRA account. 

a.       What will happen if she withdraws $4,000 from this account?  Are there any forms she will need to fill-out to make this withdrawal?

b.       What will happen if she withdraws $14,000 from this account?

c.       How old does she need to be to fully withdraw from this account without facing taxes and fees?

9.  In 2024, Beverley contributes $4,000 to a traditional IRA.  In 2025, she contributes $6,000 to a traditional IRA.  These are the only two contributions she ever makes.  In 2040, at the age of 48, she has $26,000 in her traditional IRA account.  ***Note that these questions are important because you want to be able to explain to others why traditional IRAs are not as useful as Roth IRAs for most***

a.       What will happen if she withdraws $4,000 from this account? 

b.       What will happen if she withdraws $14,000 from this account?

c.       How old does she need to be to fully withdraw from this account without facing taxes and fees?

10.  Gracie is 77 years-old.  In 2024, her traditional IRA has a $150,000 value, while her Roth IRA holds $60,000.  She makes no withdrawals from either.  Explain why this is a problem.

11.  In 2024, Randy is 38 years old.  So far, he has contributed $4,600 to a traditional IRA.  But he now wants to make Roth contributions.  How much can he contribute to his Roth IRA for 2024?  Randy earns $70,000 in income from his job.

12.  In 2024, Richard is 58 years old.  So far, he has contributed $4,600 to a traditional IRA.  But he now wants to make Roth contributions.  How much can he contribute to his Roth IRA for 2024?  Richard earns $70,000 in income from his job.

13.  Jackson is 41 years-old and works for a small construction company that offers a 401(k) with a match.  He has been contributing every year since he turned 18 and now has $550,000 in his Roth 401(k).  Unfortunately, the investment options in the 401(k) all have high expense ratios and load fees.  A few days ago, he received a job offer from a new firm that will pay the same salary and offers a similar 401(k) plan.  Based on what you learned about IRAs, explain why it might be a good idea to switch jobs.

Solutions

1.       In 2024, Greg is single and earns $107,000.  He contributes $5,000 to a Roth IRA.  Solve for his federal income taxes in 2024.

The Roth IRA contribution has no bearing on 2024 taxes. 

Taxable Income:  $107,000

Income Taxes:  $18,722.50

2.       In 2024, Amauri is single and earns $407,000.  He contributes $5,000 to a Roth IRA.  Wait a sec… what’s wrong this this scenario?

His income is too high!  He is not allowed to make Roth IRA contributions.

3.       In 2024, Erin is single and 27 years-old, earning $48,000 as a librarian.  She contributes $7,000 to a Roth IRA.  In a taxable account (also known as a brokerage account), she earns $500 in ordinary dividends and $2,000 in qualified dividends. 

a.       Solve for her 2024 federal income taxes.

Taxable Income = $48,000 + $500 = $48,500

Income Taxes = $5,723

b.      Solve for her 2024 federal capital gains taxes.

She is in the 15% tax bracket and has $2,000 in capital gains.

Capital Gains Taxes = $2,000(0.15) = $300

c.       Solve for her 2024 Social Security taxes.

Social Security income = $48,000

Social Security taxes = $48,000(0.062) = $2,976

4.       In 2024, Erin is single and 27 years-old, earning $48,000 as a librarian.  She contributes $7,000 to a traditional IRA.  In a taxable account, she earns $500 in ordinary dividends and $2,000 in qualified dividends. 

a.       Solve for her 2024 federal income taxes.

Taxable Income = $48,000 + $500 -$7,000 = $41,500

Income Taxes = $4,748

b.      Solve for her 2024 federal capital gains taxes.

Her capital gains are in the $41,500 to $43,500 range, which means she is in the 0% bracket.  He traditional contributions reduce her income enough to avoid capital gains taxes.

Capital Gains = $0

c.       Solve for her 2024 Medicare taxes.

Medicare income = $48,000

Medicare taxes = $48,000(0.0145) = $696

5.       In 2024, Hannah earns $2,800 as a part-time employee.  She wants to fund her IRA.  Should she make traditional or Roth IRA contributions?

Roth.  No question.  She is in the lowest possible tax bracket (and would actually pay no taxes once deductions are applied).  If she contributes to a traditional IRA, she will be forced to pay income taxes when she withdraws from the account in the future.  That’s dumb.  By contributing to a Roth account, she will avoid future taxes when her income is higher.  Furthermore, the Roth IRA offers more liquidity and doesn’t require RMDs.

6.       In 2024, Hannah earns $2,800 as a part-time employee.  What is the maximum contribution she can make to an IRA?

$2,800.

7.       In 2024, Haley earns $280,800 as an architect.  She wants to fund her Roth IRA.  What is the maximum contribution she can make to her Roth IRA?

Technically, we would need more information to address this question, but I'm choosing to write it this way since this is often how information is provided in social settings.  You have a friend with high income who doesn't know anything about modified AGI or income limits; so, it's possible but very unlikely that her modified AGI is below the permitted level.  So, you would tell Haley that she is probably ineligible for Roth IRA contributions and encourage her to learn more about the topic (which she probably won't do).

8.  In 2024, Beatrix contributes $4,000 to a Roth IRA.  In 2025, she contributes $6,000 to a Roth IRA.  These are the only two contributions she ever makes.  In 2040, at the age of 48, she has $26,000 in her Roth IRA account. 

a.       What will happen if she withdraws $4,000 from this account?  Are there any forms she will need to fill-out to make this withdrawal?

No taxes or fees.  But she will need to fill-out a 1099-R form when she files taxes.

b.      What will happen if she withdraws $14,000 from this account?

She will pay no taxes or fees on $10,000 of this withdraw… that’s her contribution amount.  But the remaining $4,000 will be taxed as income and penalized at a 10% rate.  

c.       How old does she need to be to fully withdraw from this account without facing taxes and fees?

59.5 years.

9.  In 2024, Beverley contributes $4,000 to a traditional IRA.  In 2025, she contributes $6,000 to a traditional IRA.  These are the only two contributions she ever makes.  In 2040, at the age of 48, she has $26,000 in her traditional IRA account. 

a.       What will happen if she withdraws $4,000 from this account? 

She will pay income taxes and face a penalty on the full amount of the withdrawal. 

b.      What will happen if she withdraws $14,000 from this account?

She will pay income taxes and face a penalty on the full amount of the withdrawal.  While one can withdraw contributions tax and penalty fee from a Roth IRAs... this is not permitted for traditional IRAs.  Taxes and penalties apply to the full withdrawal in this case.

c.       How old does she need to be to fully withdraw from this account without facing taxes and fees?

59.5 years.

10.  Gracie is 77 years-old.  In 2024, her traditional IRA has a $150,000 value, while her Roth IRA holds $60,000.  She makes no withdrawals from either.  Explain why this is a problem.

She must withdraw from her traditional IRA.  She faces RMDs.

11.  In 2024, Randy is 38 years old.  So far, he has contributed $4,600 to a traditional IRA.  But he now wants to make Roth contributions.  How much can he contribute to his Roth IRA for 2024?  Randy earns $70,000 in income from his job.

$2,400. 

12.  In 2024, Richard is 58 years old.  So far, he has contributed $4,600 to a traditional IRA.  But he now wants to make Roth contributions.  How much can he contribute to his Roth IRA for 2024?  Richard earns $70,000 in income from his job.

$3,400.  Since he is 58

13.  Jackson is 41 years-old and works for a small construction company that offers a 401(k) with a match.  He has been contributing every year since he turned 18 and now has $550,000 in his Roth 401(k).  Unfortunately, the investment options in the 401(k) all have high expense ratios and load fees.  A few days ago, he received a job offer from a new firm that will pay the same salary and offers a similar 401(k) plan.  Based on what you learned about IRAs, explain why it might be a good idea to switch jobs.

If he leaves his job, he will be able to move his 401(k) funds into a rollover IRA.  This would be a huge benefit, given the fees.  If the expense ratio is, say 1%, then he stands to pay $5,500 in fees this year alone! 

Let’s explore.  Imagine the market returns 10% annually, but his current vendor charges a 1% expense ratio.  If he makes no additional contributions and makes no withdrawals, how much money would he have in his account in 25 years? 

FV = $550,000(1 + 0.1 – 0.001)25 = $4,742,69.36

Now, let’s imagine he takes those same funds and invests in a no-cost rollover IRA that earns 10%.  How much money would he have in his account in 25 years?

FV = $550,000(1 + 0.1)25 = $5,959,088.27

So he could save more than $1 million by changing jobs and rolling-over his 401(k) into an IRA.  Wow!  Expense ratios are like your uncle’s farts… silent but deadly.