What Is an IRA?
IRAs are a cornerstone of retirement planning, offering various tax advantages to encourage saving for the future. There are five main types of IRAs, each with its own rules, tax treatment, contribution limits, and best-use scenarios. Understanding the differences helps individuals make informed decisions to secure their financial future.
Risk tier: IRAs fall in the Tier 1–3 risk range, depending on the underlying investments held inside the account. The IRA is a tax wrapper, not an investment itself — what you hold inside determines the risk profile.
Five Types of IRAs
Allows contributions of pre-tax dollars that can grow tax-deferred until withdrawal in retirement. Contributions may be tax-deductible depending on income and whether you participate in an employer-sponsored plan. Withdrawals are taxed as ordinary income.
Funded with after-tax dollars — contributions are not deductible. However, earnings grow tax-free and qualified withdrawals in retirement are completely tax-free. Roth IRAs do not have required minimum distributions during the account holder’s lifetime, providing exceptional flexibility in retirement planning.
A Simplified Employee Pension IRA designed for self-employed individuals and small business owners. Contributions are tax-deductible and can be a significant percentage of income — allowing substantially more to be saved than with a Traditional or Roth IRA. Earnings grow tax-deferred until withdrawal.
A Savings Incentive Match Plan for Employees, suitable for small businesses with fewer than 100 employees. Both employers and employees can contribute, with contributions being tax-deductible. Earnings grow tax-deferred, and withdrawals in retirement are taxed as ordinary income.
Offers more investment flexibility than a Traditional IRA. While standard IRAs limit investments to stocks, bonds, and mutual funds, SDIRAs allow investment in a wider range of assets: real estate, precious metals, private equity, and cryptocurrency. Also available as a Roth SDIRA for tax-free growth. Generally recommended for experienced investors comfortable with alternative investment risks.
2025 Contribution Limits
The IRS sets annual contribution limits for IRAs. Limits are updated periodically for inflation. These are the 2025 figures:
| IRA Type | 2025 Limit | Age 50+ Catch-Up | Notes |
|---|---|---|---|
| Traditional IRA | $7,000 | +$1,000 | Income limits apply to deductibility if covered by workplace plan |
| Roth IRA | $7,000 | +$1,000 | Income limits: Single filers phase out $150K–$165K; MFJ phase out $236K–$246K |
| SEP IRA | $70,000 | — | Or 25% of compensation, whichever is less |
| SIMPLE IRA | $16,500 | +$3,500 | Employer must match or make non-elective contributions |
Traditional and Roth IRAs share the same annual contribution limit — you can split contributions between them, but the combined total cannot exceed $7,000 ($8,000 if 50 or older).
Traditional vs. Roth — Which Is Right for You?
The choice between Traditional and Roth depends primarily on whether you expect to be in a higher or lower tax bracket in retirement than you are today:
Traditional IRA
- Best if you expect a lower tax rate in retirement
- Reduces taxable income now (if deductible)
- Taxes paid later when you withdraw
- Requires RMDs starting at age 73
- No income limit to contribute
- Good for those in high brackets now
Roth IRA
- Best if you expect a higher tax rate in retirement
- No tax benefit now, but tax-free later
- Withdrawals in retirement are tax-free
- No RMDs during your lifetime
- Income limits apply
- Excellent for younger, lower-income earners
Tax diversification: Holding both a Traditional and a Roth IRA gives you flexibility in retirement to draw from whichever is more tax-efficient in any given year — a powerful planning advantage as tax laws change.
Required Minimum Distributions (RMDs)
Traditional, SEP, and SIMPLE IRAs require account holders to begin taking Required Minimum Distributions (RMDs) starting at age 73 (updated by the SECURE 2.0 Act from the previous age of 72). The amount is calculated annually based on account balance and IRS life expectancy tables.
Roth IRAs do not have RMDs during the account holder’s lifetime — a significant advantage for those who do not need the income and want the account to continue growing tax-free. See the RMD article for detail.
Failure to take the required distribution results in a significant tax penalty on the amount that should have been withdrawn.
Early Withdrawal Penalties & Exceptions
Withdrawing funds from a Traditional IRA before age 59½ typically incurs a 10% early withdrawal penalty in addition to ordinary income tax on the withdrawn amount. However, several exceptions allow penalty-free early access:
- Qualified higher education expenses
- First-time home purchase (up to $10,000 lifetime limit)
- Significant medical expenses exceeding 7.5% of adjusted gross income
- Health insurance premiums while unemployed
- Substantially equal periodic payments (SEPP / 72(t) distributions)
- Permanent disability
- Death (distributions to beneficiaries)
Roth IRA contributions (not earnings) can be withdrawn at any time without penalty or tax, since they were funded with after-tax dollars.
Inherited IRAs
IRAs can be inherited by beneficiaries, and the tax treatment depends on several factors including the relationship to the deceased and the type of IRA.
Spouse beneficiaries have the most flexibility — they may treat the IRA as their own, roll it into their existing IRA, or take distributions based on their own life expectancy.
Non-spouse beneficiaries are generally required to distribute the entire account within ten years of the original account holder’s death, with annual distributions optional during that period (post-SECURE Act rules).
IRA Rollovers & Moves
Money can be moved between IRA types and other qualified plans (such as 401(k)s) through rollovers. When done correctly, rollovers are not taxable events. When done incorrectly, they can trigger significant tax liability and penalties.
Moving money between accounts: Always use a direct (trustee-to-trustee) rollover when possible. If you receive a check payable to you rather than the new custodian, you have 60 days to deposit it into a qualifying account — or the full amount is treated as a taxable distribution. See the 401(k) article for rollover strategy details.
Presentation by Tony Martinez (founder of TKO Financial Network)
How to Move IRA or 401(k) Money and Avoid the Penalties / Out-of-Pocket Taxes
https://www.youtube.com/watch?v=vl9Qrkn0jVU