Individual Retirement Accounts: Why Bother?
by William K.
September 22, 1996
Thesis: When planning for retirement, Individual Retirement Accounts offer
several benefits; however, careful planning is essential to ensure that: upon
retirement there is an adequate amount of money saved, that the heirs to the IRA
are chosen carefully, and that unnecessary taxes and penalties are avoided.
I. Upon retirement there is an adequate amount of money saved.
A. How much money necessary to retire?
1. Social Security verses retirement.
2. Savings Accounts verses retirement.
3. Advantages of starting an IRA early.
II. Careful selection of the heirs to the Individual Retirement Account.
A. Advantage of leaving IRA to spouse
1. Special rights as a spouse.
2. Different options the spouse has for claiming money.
III. Avoiding unnecessary taxes and penalties.
1. Recoverable trust as beneficiary.
2. Taking money out before the age of 59 1/2.
3. Penalties for leaving money in too long.
Many people often live their lives without considering how they plan to
retire. People do not realize that the idea of living solely on the benefits of
social security is not realistic. In order to secure a comfortable future,
people must have some type of additional income. Sacrificing a small amount of
money into an IRA at a relatively early age could make a considerable difference
in the lives of people upon retirement. When planning for retirement,
Individual Retirement Accounts offer several benefits; however, careful
planning is essential to ensure that: upon retirement there is an adequate
amount of money saved, that the heirs to the IRA are chosen carefully, and that
unnecessary taxes and penalties are avoided.
It is important to consider how much money will be needed for a comfortable
retirement. Careful planning is essential when considering an item with such
importance. Phaneuf states that, according to figures used by most financial
planners, upon retirement the average person will need roughly seventy percent
of their current income to continue living their present lifestyles (94). With
only income from Social Security and money saved in bank accounts, most people
are unable to achieve this goal. Furthermore, one must also consider, for a
retirement account to be effective the account has to maintain interest rates
above that of inflation. Inflation increases approximately four percent
annually; and standard bank accounts barely beat this rate. In fact, at present,
most savings accounts have an interest rate below four percent. Thus, regular
savings accounts are not a practical method to save for retirement; however,
IRA’s offer deferred taxes on the interest earned until the money is withdrawn
from the account. Therefore for a given amount of money, there is a
considerable advantage when saving in an IRA. For example, according to Heady:
if you were to save $2000 dollars a year at 6% for 30 years under the terms of a
regular savings account, the total earnings would be approximately $120,900
after paying taxes; however, if you were to shelter $2000 a year at 6% in an
Individual Retirement Account that amount would increase by $48,000 dollars to a
total of $168,000 because of the tax-deferred feature (60).
Using this example, the tax deferred feature of an IRA is easily recognized
as having a considerable edge over regular savings plans.
Another advantage to consider when planning an IRA is to start the account
as early in life as possible. It is obviously an advantage to use the program
that is going to give the best overall return; however, the advantage of
starting early should not be taken lightly either. As with all savings plans, a
key factor in the final results is the overall length of time that has been
exhausted investing into the account. People often think that there is an age
requirement to start an IRA; however, this is not the case. There are several
Banks that will even allow teenagers under the age of eighteen to begin an IRA,
as long as their parents cosign. The results of starting as a teenager are
astonishing. According to Spears: if a 15-year-old were to begin saving $2,000
a year in an IRA for ten years and earns 10% a year, the compounded annual
return on the Standard ; Poor’s 500-stock index for the past 60 years. Barring
early withdrawals, that $20,000 investment would be worth more that $1.5 million
at age 65 (55). It is easy to see that the earlier the account is started, the