How to Avoid Costly IRA Mistakes

If you’re saving for retirement, chances are you have an IRA, whether it’s a Roth IRA, SEP IRA, or traditional IRA. All of these accounts are powerful, but even so, it is important to make sure you know how to avoid costly mistakes and tax penalties when taking money out of these accounts. It’s easy to put money in these accounts, but it can be challenging to get your money out wisely. At REAP Financial, we specialize in showing retirees how to get the most out of their retirement savings, including IRAs. In this article, we’ll go over how the most successful retirees minimize taxes and penalties, when it comes time to take money out of their IRAs, and how you can take action on these wise IRA strategies as well.

2024 IRA Contribution Limits & Common Misconceptions

At REAP Financial, we always say that it’s easier to get money into IRAs than it is to get money out. In fact, in 2024, we’ve seen IRA contribution limits go up to $7,000 for individuals under age 50. For those over age 50, individuals can contribute up to $8,000 to an IRA. For many, there is a misconception here that individuals cannot contribute to more than one IRA account. That is untrue! You can contribute to both a traditional IRA and a Roth IRA, assuming your income isn’t over certain limits. Contributing to both can be a great strategy, since it allows you to get a tax deduction on some of your contributions today and some tax-free forever. This allows you to add more diversification to your portfolio in terms of taxes. 

Another common misconception is that you cannot have a SEP IRA and a traditional IRA at the same time. This is not true either. If you have self-employed income, you can have a traditional IRA and a SEP IRA, particularly if you have a W-2 job as well. You can also have a 401K and an IRA. When you’re contributing to your IRAs, it is important to know all of the accounts you have at your disposal, so you can contribute your maximum and distribute them for the best tax savings. 

Distribution Rules: the Magic Number (59 ½) 

When we say it is easier to get money in an IRA than it is to get money out of one, we’re referring to the rules around distributions out of your IRAs. Age 59 ½ is the magic age for these accounts, since once you hit this age, you can begin distributing dollars from these accounts without a 10% early-withdrawal penalty. This is the first thing to consider: when you’ll need liquidity. As you plan for your retirement and prepare throughout your working years, liquidity can make a big difference. If you have all of your money in a traditional IRA and you don’t want to touch it until you reach 59 ½ years or age, you won’t have many options for getting your money out. For this reason, it is good to save in multiple accounts and diversified accounts. 

When it comes to a Roth IRA, a little known trick is that you can touch the basis of what you’ve put into it before age 59 ½. For example, if you were putting $5,000 a year into your Roth IRA and you did that for 4 years, you’d have $20,000 in your account, which is now worth $25,000. Let’s say now that you needed cash quickly for a liquidity event. To be clear, your Roth IRA should be the last place you turn in a scenario like this, since that money is meant to be set aside for your future retirement. However, if you’re absolutely in need of liquid assets, you could consider taking money out of your Roth IRA (now worth $25,000). As long as you don’t touch the gains on the account, you would not be subject to an early withdrawal penalty.

There are a few five year rules to keep in mind when it comes to your Roth account. The account must be established for at least five years before you can take distributions, so you should establish it as soon as possible. This five year rule also applies to Roth conversions, so people who are approaching or already in retirement considering a conversion should keep this five year rule in mind. There are several other dedicated resources covering this topic, such as videos and articles, if you’re interested in learning more. 

IRAs and Roth IRAs don’t offer loans, like some 401K plans offer. If your employer allows for a 401K loan, generally you’d be allowed to take out that money with set terms and pay it back over time, with payments coming directly out of your paychecks. These varied rules just bring us back to the importance of saving money in multiple places that offer us a variety of benefits, such as liquidity, tax-free growth, tax-deferred growth, and more! The most successful retirees follow this strategy, diversifying the types of accounts they have, so they have a variety of benefits and options for pulling money out of their accounts. 

Diversification Strategies & Fiduciary Advisors

When it comes to investing and saving, many people begin by simply doing payroll deductions from an employer plan or saving money independently. While this works when you’re starting out, as you get closer to retirement you’ll accumulate significant assets and wealth. As you get closer to retirement, you may want to consider working with a financial advisor. Your choice of financial advisor can easily be one of the most impactful of your life. We encourage you to find the right fit for you, as long as they are a fiduciary advisor, since a fiduciary legally has to do what is in your best interests. These advisors are held to a higher standard, about the suitability standard, so you can have the most confidence in your advisor. 

Another way to avoid costly IRA mistakes is to diversify your portfolio! There are two types of diversification we’ll cover today. The first is diversification of your asset mix, so you’re not all in on one mutual fund or stock. You want to position your wealth in a balanced way, so that your portfolio is stable no matter what is happening in the market. Aspire for true diversification, which goes beyond the asset you’re invested in and also considers the tax class. It can be a costly mistake to put all of your wealth in pre-tax IRAs and 401Ks, which is then subject to tax. At age 73 or 75 when the minimum distributions begin, this can get even more tricky, since large minimum distributions can easily push you into a higher tax bracket, meaning higher Medicare premiums as well. 

Your Most Successful Retirement – The REAP Financial Way

As you prepare for retirement, we at REAP Financial want to make sure you’re considering all of these possibilities and all the accounts you could be putting your money into. As we’ve demonstrated, having all of your money in the same account can create costly tax burdens and lead you to getting less value out of your retirement funds overall. So, make sure you’re diversifying your accounts and taking these tips into consideration. If you want to learn more strategies like these, such as how to use your IRA to fund your HSA, check out our website or YouTube channel, with more useful information!

If you’re in the Austin, Texas area and need a skilled retirement planner, reach out to our expert team at REAP Financial. We specialize in designing personalized retirement strategies tailored to your unique financial goals and lifestyle aspirations. Let us help you navigate the complexities of retirement planning to ensure a secure and fulfilling future for you and your loved ones. Contact us today for a consultation and start your journey toward a comfortable retirement in Austin.

Phone: (512) 249-7300

Our Main Office Address

REAP Financial

9414 Anderson Mill Rd #100

Austin, TX 78729

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