IRA Insights: Now is the time to graduate to an IRA
May 28, 2014
Nearly four out of every ten U.S. households own an IRA, holding more than $5.7 trillion in these accounts, according to a 2013 study by the Investment Company Institute. Because of the significant role they play in retirement savings, researchers from Vanguard's Investment Strategy Group set out to understand Vanguard investors' behavior when it came to IRAs. Are they saving effectively? Investing prudently for their futures?
Our researchers are sharing their findings in a series called IRA Insights. The latest installment appears below, or you can download a copy.
IRA investors can be slow getting to the starting line
Looking for the perfect graduation gift? Consider a Roth IRA. Vanguard contribution data show that only 8% of IRA contributors for U.S. tax-year 2013 were under age 25. Helping your graduate fund an IRA can ensure he or she doesn't miss out on "prime saving years." Almost any graduate with earned income can make an IRA contribution.
Sometimes a penny saved is five pennies earned
Notes: This hypothetical illustration assumes 4% annual return, after inflation; amounts in today's (2014) dollars
Providing for a secure retirement is easier if graduates leverage an asset they have in abundance: time. Compounding is a term describing the snowball effect that happens when you generate more earnings on top of earnings. Because of compounding, every dollar contributed at age 20 can earn more than twice as much as a dollar contributed at age 35, and more than ten times as much as one contributed at age 55.
A fast start is key to winning the retirement marathon
Notes: This hypothetical illustration assumes 4% annual return, after inflation; amounts in today's (2014) dollars. Investor A contributes $450 per month from ages 21 through 30; Investor B contributes $450 per month from ages 40 through 64.
Getting in a savings habit right away can provide a head start that lasts a lifetime. Consider two hypothetical investors. Investor A contributes $450 per month in a balanced-fund Roth IRA for ten years starting at age 21, and then stops. Investor B makes the same $450 monthly investment, but doesn't begin until age 40, then continues for 25 years. On average, at age 65, Investor A will have accumulated more money for retirement, despite contributing only 40% as much.
- All investing is subject to risk, including the possible loss of the money you invest.
- Diversification does not ensure a profit or protect against a loss.
- When taking withdrawals from an IRA before age 59-1/2, you may have to pay ordinary income tax plus a 10% federal penalty tax.