If you had to pay the government 10 bucks today or 100 bucks 80 years from now which would you choose? If you’re familiar with time value of money you probably want to know what the current interest rate is. But the answer is very simple when you consider your current tax rate. As a young adult in a low income tax bracket your rate today should be much lower than it will be when you retire. If you really want to be a financial success then you have to pay attention to your taxes.
A Roth IRA is an excellent way to take advantage of tax bracket saving. IRA stands for individual retirement account. It’s a way for our generation to be sure we will have cash flow at retirement. I for one won’t be depending on the Social Security system.
With a Roth IRA, the money you deposit today is ‘after-tax’ money. (Remember that there are IRA contribution limits and you won’t be able to contribute your entire check.) That means you’ve already paid tax on it and when you decide to withdraw from your IRA you won’t have to pay tax on it again. This is a big deal because right now Uncle Sam probably only takes about 15 to 20% of your earnings. However, once you get older and your income rises, you might be paying Uncle Sam 30 to 36% of each dollar you make. You can even open a Roth IRA for kids.
You can open an IRA with your bank or your brokerage company. If you are a Sharebuilder customer you should check out their Roth IRA account. Once you open an account and deposit funds you can buy and sell stock like you do with your individual account. Wherever you decide to open your IRA make sure you check for fees just like you did when you were choosing a broker to trade with.
Also, make sure you maximize your contributions. Each year you are allowed to deposit a certain amount and there’s no going back if you don’t put in as much as you can the year before. After a while you will have a nice tax free nest egg saved.
Update 2/15/11: This article was featured in the Tax Carnival.
Photo credits: http://registeredrep.com/wealthmanagement/retirementplan/finance_new_roth_ira/