Top 5 Questions Investment Beginners Ask About Roth IRAs

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roth ira save for retirementIf you want your wealth and retirement savings to grow as quickly as possible, then consider the great benefits of a Roth IRA. Creating one is probably the best investment decision I’ve ever made. I only wish this wonderful investment vehicle was available when I graduated from university. But let me slow down. I’m getting ahead of myself. Here are answers to five common questions frequently asked about these accounts:

What is a Roth IRA?

If you’re not familiar with a Roth IRA, let me give you some background information. It was devised by the U.S. Congress in 1998 to give more people another way to build their retirement portfolios. It is named after former U.S. Senator William V. Roth, Jr., who pushed for the legislation.

The IRA part stands for Individual Retirement Account (or Arrangement). Roth IRA’s are available in the general marketplace. You would not go through your employer to set one up.

Organizations that can offer Roth IRA’s include financial institutions such as banks, investment houses, mutual fund companies, and insurance companies. They must satisfy certain Internal Revenue Service regulations to become Roth IRA trustees or custodians. This just means they have to be qualified to hold and invest your money.

How does a Roth IRA work?

When you’re ready to open a Roth account with an institution, you’ll fill out a bit of paperwork so that your investments can be tracked and to let the IRS know about the arrangement. You can generally make a deposit into your account right away. This is referred to as  a contribution.

There’s nothing special about the Roth account itself. It’s like a bank account with no money. Well, kinda.

You see, the real magic is in the awesome rules and guidelines that make a Roth such a flexible and attractive investment vehicle. I’ll give you a simple example.

Let’s say that you opened a Roth account with one of the big mutual fund companies, such as Fidelity Investments, and deposited $3,000.

Fidelity offers a range of investment products, including mutual funds, bonds, stocks, annuities, money market funds, etc. You can create your own portfolio mix or have one of their advisors help you. Anyway, all you have to do is call a Fidelity representative, give them your Roth account information, and tell them how you’d like to invest part or all of your $3,000.

They would process your request and the investment(s) would show up in your account, usually within 24 hours. You’ll receive monthly statements showing which investments you have, the amounts, and any gains or losses.

What can’t I do with a Roth IRA?

Now, there’s an important issue to keep in mind about choosing where you open your Roth IRA. Many financial institutions won’t allow you to transfer certain investments into your Roth account. They will generally limit you to just the products they offer.

So, if you were to read about a hot mutual fund that was only available through a competitor, you may have to handle this investment in another way that I’ll discuss shortly.

But this is also why you may want to establish a Roth account with an institution that offers a large and wide number of investment choices. E-trade is one of those companies. Not only can you invest in many of Fidelity’s products through them, but you can access the offerings of their competitors as well. It’s a beautiful thing.

What else can I use my Roth IRA for?

In addition to the investment options mentioned above, other investments that can be added to a Roth account include real estate, partnerships, mortgages, private equity, tax liens, and more. So, if you have a special transaction that you would like in a Roth, be sure to find a qualified trustee who is willing to handle it.

Now, if you find that you can’t link an investment to your Roth, just open another Roth IRA. Simple as that. There’s no problem with having muliple Roth IRA’s, even alongside a Traditional IRA and a 401(k) account.

The catch is that you’re limited to the total dollar amount that you can contribute to the Roth accounts each year. For example, the total combined contribution limit for 2012 is $5,000 if you’re under 50 years old and $6,000 if you’re 50+. There are also additional restrictions based on your annual income, if you make over six figures.

Why is a Roth IRA a good investment?

You contribute after-tax dollars to a Roth IRA. After-tax just refers to the money you ultimately bring home in your paycheck. The great thing about a Roth is that if you contribute to it, without making any withdrawals until after age 59.5, then none of the money will be taxable. None. Nada. All those investment profits will be tax-free. There’s no other wealth building investment vehicle like it. I only wish I could contribute a lot more every year.  You should seriously consider including a Roth in your personal finance strategy.