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Everything You Need to Know about Spousal IRAs

Editorial Note: The content of this article is based on the author’s opinions and recommendations alone and is not intended to be a source of investment advice. It has not been previewed, commissioned or otherwise endorsed by any of our network partners.

A spousal IRA is an investment strategy used by married couples to save for retirement. There is no separate type of individual retirement account called a “spousal IRA” — rather, it’s just a traditional IRA for a married person who isn’t earning an income. IRS rules allow spouses who aren’t earning income, for whatever reason, to still use the tax advantages of saving and investing money in an IRA to accumulate a nest egg for retirement.

What is a spousal IRA?

The IRS requires individuals to report annual income in order to fund an IRA — with the exception of a spouse who isn’t earning an income, but is married to someone who is. If both partners in the marriage file taxes jointly, the IRS lets each partner have their own IRA. Married couples who file taxes separately are not eligible for the spousal IRAs approach.

According to Janice M. Cackowski, a financial advisor with providence Wealth Partners in Ohio, the IRS looks at married couples who file jointly as one entity, and their combined income as one figure, so spousal IRAs allow them to put away twice as much.

“Spousal IRAs are terrific tools when one spouse is employed and the other is not,” said Cackowski. “It allows the spouse who is earning wages to deposit them an IRA for the benefit of the non-working spouse, essentially allowing each spouse to maximize their retirement savings.”

Basic spousal IRA rules

  • The tax filing status of the couple must be “married filing jointly”
  • The married couple does not co-own a spousal IRA — it is owned by and held in the name of the non-working spouse
  • Spousal IRA can be a Traditional IRA or a Roth IRA
  • There is no longer an age limit for making contributions to a Traditional IRA, so you may keep adding money after age 70 ½, as has always been the case with a Roth IRA

Like any other IRA, married people making use of a spousal IRA strategy contribute funds to their separate accounts and invest the funds in stocks, bonds, CDs and other assets. Interest accumulates over the years, and the account grows either tax-free or tax-deferred (more on this in a bit).

For example, if you contribute $6,000 a year to your IRA starting at age 30 until you retire at age 65, the sum would grow to more than $700,000, assuming a 6% annual rate of return. This figure doesn’t account for taxes (so it’s not entirely exact), but it does show how the power of compound interest can work in your favor over time.

What are your spousal IRAs options?

Your spousal IRA can be either a Traditional IRA or a Roth IRA. The rules and contribution limits for spousal IRAs are no different than conventional versions of either account. Remember, the difference between a Roth IRA and a Traditional IRA comes down to when you can reap the tax benefits of each option, and Traditional IRAs may provide tax deduction benefits.

  • Traditional IRA: Contributions to a Traditional IRA are made before you pay income tax. As such, you end up paying income taxes on all withdrawals — principal and interest earned — when you withdraw funds in retirement.
  • Roth IRA: Contributions to a Roth IRA are made after you pay income taxes. Since you’ve already paid taxes upfront, money you withdraw in retirement is tax free.

Which should you choose? In general, if you’re in a lower tax bracket now than you expect to be when you retire, then a spousal Roth IRA may be more beneficial, as you may save money on taxes down the road. This decision is unique in each situation.

Spousal IRA contribution and income limits

For 2020, the annual contribution limits for both Traditional IRAs and Roth IRAs is $6,000, or $7,000 if you’re 50 or older. This is the core benefit of a spousal IRA: A married couple can potentially sock away a total of $12,000 into their IRAs.

There is no income threshold for contributing to a traditional IRA, while the limit for contributing to Roth IRAs is $206,000 for married couples filing jointly. Also, In addition, for both Roth IRAs and Traditional IRAs, the married couple must have taxable income that is equal to or greater than the total amount contributed to their IRAs.

Spousal IRA tax deductions

Couples can deduct their contributions to a Traditional IRA from their taxes, depending on two factors. The income tax deduction is reduced or eliminated entirely depending on the couple’s total income, or the earning spouse’s participation in an employer-sponsored retirement plan.

If the spouse who works is covered by their employer’s retirement plan, the Traditional IRA income tax deduction is phased out when the couple’s income falls between $104,000 and $124,000. Incomes above $124,000 get no tax deduction.

However, if the spouse does not participate in an employer-sponsored retirement plan, the deduction phases out at an income level of $196,000, and is eliminated after income hits $206,000. There are also tax credits available — the Saver’s Credit — for married couples filing jointly who earn less than $65,000 a year.

Spousal IRA withdrawals

Because IRA funds are intended for use in retirement, withdrawing them before that time often comes with a penalty. For traditional IRAs, there’s a 10% penalty if you withdraw funds before age 59 ½, and you also must pay taxes on the money you withdraw. For Roth IRAs, you can withdraw the funds you contributed at any time penalty free, since you already paid taxes on them up front, but you’ll pay a 10% penalty on any earnings if you with withdraw them sooner than five years after the account was opened or before age 59 ½ (whichever is longer).

For both traditional and Roth IRAs, there are some exceptions to early withdrawal penalties for things including death, disabilities and a first-time home purchase.

Who should consider a spousal IRA?

Any family with a non-working spouse and disposal income for long-term savings that is looking to increase their retirement nest egg should consider a spousal IRA as a potential option.

According to Michelle Buonincontri, an Arizona-based certified financial planner and certified divorce financial analyst, spousal IRAs help protect the non-working spouse in the case their happily ever after doesn’t end quite so happily.

“Let’s face it, with 50% or more of first marriages ending in divorce, spousal IRAs are a great way to level the playing field by having retirement assets in the name of the spouse that does not have access to a retirement plan if a couple ever find themselves in a divorce situation,” she said.

Although retirement assets accumulated during the marriage are usually considered marital assets, Buonincontri suggested that “folks seem less emotional about letting the other spouse keep accounts titled in their own name and less tense during the marital settlement negotiation process.”

Spousal IRAs aren’t for all couples

This doesn’t mean contributing to a spousal IRA is right for every couple, however. While spousal IRAs are generally a positive investment, people need to take a hard look at their financial situation to make sure funds won’t be needed elsewhere.

Diane Pearson, a certified financial planner with Pearson Financial Planning in Pittsburgh, Penn., noted that a spousal IRA isn’t always the first move couples should make with disposable income.

She advised that couples should build their emergency fund and general savings before opting for a spousal IRA. Savers don’t want to set themselves up for additional taxes or early withdrawal tax penalties if they end up needing to pull funds out of an IRA to pay for near-term emergencies or a child’s education before age 59 1/2.

“Every situation is obviously different, but if an employer is offering the working spouse a match to a qualified retirement plan, and the individual instead decides to use their income to fund their non-working spouse’s IRA, they may be missing out on the employer’s matching contribution,” said Pearson.

How to open a spousal IRA

As we noted in the introduction, a spousal IRA is a strategy, not a distinct type of individual retirement account. Whether you choose to set up your spousal IRA as a Traditional IRA or a Roth IRA, you can do so through most banks, brokerage and wealth management firms, as well as robo-advisors.

For more help determining which might be best for your IRA needs, visit our list of the best IRA account providers, and the best robo-advisors.

How hands-on you want to be when it comes to managing your IRA will help you decide which route to go. While some providers will do all the work for you, you’ll pay for that help in the form of management fees, other brokers give you complete control over your portfolio and you save on fees.

Advertiser Disclosure: The products that appear on this site may be from companies from which MagnifyMoney receives compensation. This compensation may impact how and where products appear on this site (including, for example, the order in which they appear). MagnifyMoney does not include all financial institutions or all products offered available in the marketplace.

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5 Types of Investment Accounts to Consider

Editorial Note: The content of this article is based on the author’s opinions and recommendations alone and is not intended to be a source of investment advice. It has not been previewed, commissioned or otherwise endorsed by any of our network partners.

If you’re planning to invest your hard-earned money, you’ve already made the tough choice. After all, it’s not always easy to put money away for tomorrow when there are so many things to spend it on today.

Determining just how to invest those funds, however, can be overwhelming. There are numerous options, and unfortunately there’s no perfect formula for investing success. The best thing you can do is evaluate your options and select the ones that have the most potential to help you meet your unique financial goals. To help, here’s a look at some of the most popular types of investment accounts you may want to consider.

Popular types of investment accounts to consider

1. 401(k) plans

It’s never too early to start saving for your “golden years,” no matter how far away they may seem. One of the most common ways to do so is through a 401(k) plan.

These employer-sponsored accounts let you regularly invest a portion of your paycheck into a portfolio of investments that you choose from the plan’s offerings, including stocks, bonds and mutual funds. Your contributions are typically deducted automatically from your paycheck, so it’s an easy way to set and forget your investment. In some cases, your employer may even offer matching funds.

There are two primary types of 401(k) plans: traditional and Roth. A traditional 401(k) plan allows you to invest money where it will grow tax-deferred until you reach retirement. In the case of a Roth IRA, however, you pay taxes on your contributions upfront, so when you withdraw money in retirement it’s yours tax-free. While there are various considerations when choosing between the two, in general, if you’re in a lower tax bracket now than you expect to be in retirement (often the case for those early in their careers), then the Roth option may be worth exploring.

The amount you can contribute to a 401(k) is capped each year. For example, the total limit for 2020 is $19,500 for both Roth and traditional 401(k)s combined ($26,000 if you’re 50 or older). There are also penalties if you withdraw funds before you reach age 59 and a half or if the account is less than five years old.

2. Individual retirement accounts (IRAs)

IRAs offer another effective way to save for retirement. They’re often a good option if you’ve maxed out yearly contributions to your 401(k) and want to invest more, or if your employer doesn’t offer a 401(k) plan. IRAs can be opened through a bank or broker.

While there are numerous types of IRAs, the two most common are traditional and Roth IRAs. Both come with tax benefits similar to those of 401(k)s. With a traditional IRA, taxes are deferred until retirement, when you’ll be responsible for paying them. With a Roth IRA, you pay taxes on your contributions upfront and then you can withdraw money tax-free in retirement.

The contribution limit for IRAs is lower than 401(k)s. For 2020, the limit is $6,000 ($7,000 for those over age 50), though there are some income guidelines that may further limit the amount you can contribute. You may incur penalties if you withdraw funds from your IRA before the age of retirement (59 and a half) or before the account is five years old. However, you can make penalty-free withdrawals if you use the money for certain expenses, such as the purchase of a first home or qualifying education costs. For this reason, IRAs may offer more flexibility than 401(k) plans in some cases.

3. Taxable brokerage accounts

Say you’ve maxed out your retirement plan contributions and are looking to invest even more, or perhaps you want access to the returns on your investments before retirement. In those cases, you may want to consider a taxable brokerage account.

Brokerage accounts serve as a holding place for your investments, including things like stocks, bonds and mutual funds, and you can buy, sell and trade your assets through them. There are no tax benefits, but use of the funds in a brokerage account isn’t limited and can be accessed at any time, for any purpose without penalty. There are also no contribution limits, so you can invest as much as you like in one.

However, there may be some hoops to jump through. Some brokerage firms require a minimum investment to set up an account. They also will likely charge brokerage, transaction and management fees. If your balance drops below a set minimum, you may incur additional charges as well. You will also be responsible for paying taxes on any growth of the funds, including interest earned.

You can either open an individual brokerage account or a joint brokerage account with another person, such as your spouse.

4. Education accounts

If you have children or are thinking about having them one day, then you want to start saving for their education as early as possible. There are a number of accounts that offer a convenient way to do so with tax advantages to boot.

Some to consider include the following:

  • 529 plans: One of the most popular ways parents save, these “qualified tuition plans” include both prepaid tuition plans and general education savings. The rules for use vary by plan, but as long as you use the funds for education expenses, 529 plans can be quite flexible and offer a convenient way to save and grow funds tax-free.
  • Coverdell education savings accounts: Coverdell accounts are similar to 529s in that they provide tax-free savings for education. While the contribution limit for Coverdells is significantly lower ($2,000 per year), they typically offer more investment choices for your funds.
  • Custodial accounts: Also known as Uniform Gifts to Minors accounts (UGMAs) or Uniform Transfers to Minors accounts (UTMAs), these custodial accounts are brokerage accounts that are set up for minors. They can be used for education or any other purpose as long as it’s for the child.

5. Micro-investing accounts

If you don’t have a ton of cash to invest, you may want to consider a micro-investing account. These come in various forms, but often work through an app on your phone. One popular type invests the “spare change” from your daily purchases. For example, if you buy groceries for $33.25, your purchase would be rounded up to $34 and 75 cents would be invested. Over time, those small amounts can add up significantly, and you likely won’t even miss them.

How to choose the right account for your money

As you can see, there are options aplenty when it comes to investment accounts, all with differing benefits and limitations. To choose the best one for you, make sure you look closely at the details, including the minimum amount necessary to invest as well as any associated account fees. While in many cases the fees are simply withdrawn regularly from your account, high fees can add up significantly over time. You also want to take into account any matching funds that an employer may offer in the case of a 401(k) and the tax benefits of some accounts.

Beyond the details, make sure you consider your unique financial goals and circumstances, including how much risk you’re willing to take. Make sure to revisit your accounts regularly so you can adjust your selections appropriately if your life circumstances or goals change.

Investing is far from an exact science, but the potential for payoff is certainly there. Consider your options, diversify when possible and seek professional assistance if necessary.

Advertiser Disclosure: The products that appear on this site may be from companies from which MagnifyMoney receives compensation. This compensation may impact how and where products appear on this site (including, for example, the order in which they appear). MagnifyMoney does not include all financial institutions or all products offered available in the marketplace.

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Is Your 401(k) Worth It?

Editorial Note: The content of this article is based on the author’s opinions and recommendations alone. It has not been previewed, commissioned or otherwise endorsed by any of our network partners.

piggy bank with sunglasses sitting on chair on beach

For many people, it makes a lot of sense to participate if your employer offers a 401(k) plan. It’s an easy and effective way to build a nest egg for retirement, and in most cases, it’s a smart financial move.

401(k) plans are offered to about 65% of U.S. employees, according to the annual Transamerica retirement survey released in August 2018. Typically a set amount (determined by you up to an annual federal limit) is automatically deducted from your paycheck on a regular basis and invested into a portfolio made up of stocks, bonds and other investment options. It’s a simple way to save for your future and potentially grow your wealth until you need it in retirement.

In most cases, a 401(k) plan is a solid option for long-term savings; however, there may be times when investing in your employer’s 401(k) is not your best move.

Here are eight times you may want to consider options beyond your company’s 401(k) plan.

8 signs your 401(k) isn’t worth it

1.  Your employer doesn’t match contributions

Many employers (up to 85%) who offer 401(k) plans offer some form of matching contributions. It’s up to the employer to determine the type of matching incentive program they will offer, which may be made up of cash and/or shares of company stock. For example, one employer may offer to match 50 cents on every dollar you contribute — up to a certain percentage of your salary — while other employers may match your contributions dollar-for-dollar. As an added bonus, these contributions don’t get calculated into your annual 401(k) contribution limit. However, you’ll get nothing if you don’t contribute to your 401(k), which essentially means your walking away from free money.

If, on the other hand, your employer doesn’t offer matching funds, then you essentially have nothing to lose by exploring alternative options such as individual retirement accounts (IRAs) and other investment tools that may provide more flexibility with similar tax benefits. The 401(k) plan may still come out on top, especially when it comes to convenience, but do your due diligence to ensure you’re maximizing your money.

2. You’re not immediately eligible to participate

Employers aren’t required to offer retirement plans to employees, but if they do, they must offer them to all employees (part-time employees may be exempt). They may, however, set stipulations requiring you to be at least 21 years of age, and that you work a set period of time (such as one year) before you can enroll.

If participation in your employer’s plan isn’t an option for you for either of these reasons, you may want to explore other investment options. Then, when you’re eligible to participate in your employer’s plan, you can shift your investment dollars there, or even better, contribute to both. Note, however, that there may only be certain windows during the year when you can begin contributing, even after you’re eligible.

3. There’s a long vesting schedule

Any funds you contribute to your 401(k) plan are yours no matter what. While you may have to pay penalties for an early withdrawal (before the age of 59 and a half), it’s not always that cut-and-dry. In some cases, those shares must vest over time before they are considered “yours” to keep.

For example, if your company offers matching contributions that vest 25% each year, that means they won’t fully be yours for four years. If you leave your job after one full year, you’re eligible to take 25% of the matching contributions, and after two years, 50%. If you leave before a full year, you don’t get to take any of those contributions.

It may not make financial sense to invest in your company’s 401(k) if they have a long vesting schedule and you don’t plan to stay there long.

4. The investment options are limited

When you enroll in a 401(k) plan, you are presented with various options on how you can invest your money. These options may include mutual funds, stocks, bonds and variable annuities, among others.

According to the Financial Industry Regulatory Authority, the average number of available options falls between eight and 12, but the range is wide, with some employers offering just a few and others offering dozens. If your plan’s offerings are on the lower end, you may want to consider other ways to save for your future to better diversify your investments.

Some companies will automatically enroll you in their company’s 401(k) plan, with default investments and a set contribution amount selected for you. It’s up to you to change them if you want to specifically choose your investments.

5. Your 401(k) comes with high fees

All that potential for growth isn’t usually free, and a fee may be charged for managing your 401(k) plan. Your employer is required to provide you with a fee disclosure statement each year, but it’s easy to dismiss if it’s just a small percentage. However, that seemingly low fee can add up to a big loss for you over time, especially if you’re maxing out your 401(k) each year. This fee calculator from AHC Advisors can show how even a small percent of your investment can really add up over time. If the fee is too high, you may be better off exploring other investment options.

6. You’re maxing out contributions

No matter what your annual salary may be, there’s a maximum amount you can contribute to a 401(k) plan. The limit is $19,500 for 2020, but it’s adjusted each year. If you’re over the age of 50, there are allowances for “catch-up” contributions, increasing your contribution limit to $26,000.

If you’ve hit your limit, but still want to sock more money away for your future, there are plenty of alternatives to consider. For example, IRAs often provide more flexibility, without penalties, for early withdrawals if you use the funds for certain things, such as buying your first home or for education expenses.

7. You’re swimming in debt

Compound interest is a beautiful thing if it’s working for you. In the case of debt, however, compound interest is working against you, which can dig you into a deep financial hole.

MagnifyMoney’s Credit Card Payoff Calculator can give you a good idea just how hard it can be to dig yourself out of debt when interest is working against you. For example, if you owe $10,000 on a credit card with a 21% APR and pay just $200 a month, you’ll end up paying almost $14,000 (over 120 months) in interest alone! That’s money that could be growing and earning interest for you if you wiped out that debt.

So, if you have a lot of high-interest debt, it may make sense to pay it off before investing. In many cases, you can work out a plan to do both simultaneously, but that will largely depend on your individual financial situation, including the amount and type of debt you’re carrying and your income.

8. You want to pay taxes now and take tax-free distributions in retirement

There’s no way to avoid paying taxes, but you can choose when you want to pay taxes on your contributions.

With a traditional 401(k) plan, taxes on the money you contribute are deferred until retirement. That means the full amount of your contribution can grow over the years, but will you have a tax bill to pay when you withdraw the funds in retirement.

Some employers may also offer a Roth 401(k). This option allows you to pay taxes on the money up front, allowing you to withdraw them tax-free later. However, any employer matching funds must go into a traditional 401(k), so you may have both plan types if you select the Roth option.

If your employer doesn’t offer a Roth option, you can always open a Roth IRA; however, there are income limits with Roth IRAs.

In general, Roth IRAs and Roth 401(k)s are beneficial for those in a lower tax bracket now, and expect to be in a higher tax bracket when they retire.

Bottom line

So, whether you’re already enrolled in your company’s 401(k) plan or will be facing an enrollment decision in the near future, make sure to use the above list to help make an informed investment decision.

Always review accompanying financial paperwork and seek professional guidance if you aren’t sure which is the best choice for you.

Advertiser Disclosure: The products that appear on this site may be from companies from which MagnifyMoney receives compensation. This compensation may impact how and where products appear on this site (including, for example, the order in which they appear). MagnifyMoney does not include all financial institutions or all products offered available in the marketplace.