More Delayed Gratification…Retirement Accounts!
Physicians know delayed gratification. As a student, resident, and attending you say “no” to many weddings, birthdays, family get-togethers, and weekend events. Your mental fortitude is a well-developed muscle. Similar to your medical career, financial planning requires a disciplined approach. Today, we are going to discuss IRAs.
First, a personal note, I am in my last year of residency with 2 more years of fellowship after graduation. My wife just graduated IM residency and took a hospitalist job 6 months ago. I have plenty of knowledge with saving my income to fund my Roth IRA but minimal experience with an attending salary in the family. We are trying to live like a resident for the foreseeable future.
Individual Retirement Accounts (IRAs) are retirement accounts that offer certain tax advantages. In these accounts, you can use different types of investments (stocks, bonds, mutual funds, REITs) depending on your risk tolerance, age, and time to retirement.
The two types of primary IRAs include:
- Traditional IRAs – The “Original”
Traditional IRAs are available to anyone with earned income (wage or business). Contributions are deductible and made before taxes are taken out. Taxes are paid after you withdraw the money. When you reach 70 1/2 years old, you must start taking money out.
Many financial experts claim Roth IRAs are superior to traditional IRAs since physicians will generally be in a higher tax bracket when they retire and have a higher income than the maximum amount needed to make a tax deduction. That is an upside problem!
- Roth IRA – The “Young Gun”
The Roth IRA is GREAT for residents and, personally, has been a great addition to our savings plan. A key difference between a Roth IRA and a traditional IRA is that you put in post-tax money into it. Since you have already paid taxes, when you withdraw the money in retirement, it comes out tax-free. It is perfect for individuals that expect their retirement tax bracket to be higher than their current tax brackets (residents, early attendings, etc.)
The Roth IRA requires you to make under a certain amount to contribute DIRECTLY to it. You must make less than $164,000 (single) or $183,000 (married filing jointly) to contribute to a ROTH IRA. If you are married filing separately, you can not contribute directly to a ROTH IRA.
Other benefits of a ROTH IRA
- No mandatory withdrawals (useful for estate planning purposes)
- You may withdraw your contributions at any time tax and penalty-free.
- The Backdoor ROTH is an option if you make more than the income limit and/or are married filing separately (for student loan reasons, etc.)
- SEP and SIMPLE IRAs – “Extra Credit”
A SEP (self-employed pension) IRA is for business owners, sole proprietors, and self-employed professionals. An employer will contribute a certain amount (tax-deductible) go into an employee’s traditional IRA. There is an elevated contribution limit of 25% of income of $53k; whichever is less. An employer does not have to fun contributions every year but when she does, they must contribute to ALL employees’ SEP IRA. Interestingly, employees may not contribute to their SEP IRA.
A SIMPLE (Savings Incentive Match Plan for Employees) is similar to a SEP IRA in that it is set up by business owners and self-employed professionals. The owner will set up a SIMPLE IRA and make tax-deductible contributions to an employees’ traditional IRA. Both employees and employers may contribute to the IRA. The employer must contribute up to 3% of a salary or flat 2% of pay.
SIMPLE IRAs have a lower contribution limit ($12,500) but are very easy to set-up. SEP IRAs have a higher contribution limit ($53,000).