Around 36% of U.S. households use an IRA to save for retirement, according to the Investment Company Institute. Of those who made a contribution in tax year 2016, almost half (47.6%) maxed out their account, per the latest data from the Employee Benefit Research Institute.
For 2020, you can contribute a maximum $6,000 to an IRA if you're under age 50, or $7,000 if you're older than 50. (Those limits are unchanged from 2019.) There are two primary types of IRAs — traditional and Roth — and the annual limit covers your total contributions across all the IRAs you own.
Setting aside $6,000 every year can seem like a lot. But if you break down what you'll need to save from each paycheck, it can seem more manageable.
Assuming you receive 26 paychecks over the course of a year, you would need to save approximately $230.76 from each check to reach the $6,000 limit. For older savers looking to hit $7,000, you'll need to save $269.23.
Investors who opt for a traditional IRA may soften the blow of those contributions, however. Depending on how much you earn and whether you have access to a workplace retirement plan, your contributions may be tax-deductible. For a single taxpayer in the 22% tax bracket, a $6,000 contribution could save you about $1,300 in federal taxes. That tax benefit will allow you to tuck that $1,300 away into your savings account.
You could also take advantage of little windfalls over the year to lessen how much you need to put aside with each paycheck. If you receive a tax refund, for example, some experts also suggest using a portion of it to fund your IRA. Last year, the average refund was nearly $2,900. Applying that to your IRA could get you almost halfway to the annual limit.
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Over the course of a career, maxing out your IRA can be a powerful move, especially if you start saving early. That makes the most of the power of compounding, which means you earn a return not just on your money, but also on the interest it has already accrued.
For example, let's say you start saving at age 25 and max out your IRA every year over a 40-year career. Assuming average annual returns of 7%, you could have more than $1.4 million by age 65.
Keep in mind that IRAs are just one tool to help you meet your retirement savings goals. The annual contribution limit for an IRA is less than one-third of what you can put into an employment-sponsored 401(k), if you have access to one — and depending on your retirement needs, you may need to put aside more per year than that IRA limit allows. Plus, your company may offer a match that doubles the value of money you contribute to a workplace account.
Even if you can't max out your IRA contributions in a given tax year, steadily increasing them can have a powerful impact. "Those small jumps by just 1% or 2% over a 20-year or 30-year career can really make a big difference in the end," Meghan Murphy, vice president at Fidelity Investments, told CNBC last year. "The longer that money is in the plan and has time to grow, the better off you are."
To make it even easier to hit your goal of maxing out your IRA, schedule automatic transfers from your paycheck to your retirement accounts. You can also opt to automatically increase those contributions every year, effectively supercharging your savings.
Set up automatic contributions of $230.76 from each paycheck "so that you're always contributing the maximum" over the course of a year, says Niv Persaud, a certified financial planner and managing director at Georgia-based Transition Planning & Guidance. Time those to coincide with your paydays, she recommends: If you never see the money, it won't feel like you're missing out.
"That money is for the future — pretend it doesn't exist."
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