My introduction to Investing
The very first investment I learned of was the Roth IRA. My knowledge of investing was slim to none at this point. I discovered that it was a great investment strategy as I did my own research. To briefly sum it up, a Roth IRA is a retirement account that allows you to invest post-tax dollars. Putting money that’s already been taxed into an index fund allows your money to grow tax free. Any interest that you gain on your money is tax free!
Why Invest in a Roth IRA?
The great thing about a Roth IRA is that you can withdraw your contributions tax free. A traditional IRA would be taxed at the rate of ordinary income at the time it is withdrawn. This makes a Roth IRA more favorable to those who speculate an increase in taxes in the future or for higher income levels at the time of retirement. Any growth within your investment is also tax free, but if you want to pull that amount out before age 59½, you will be taxed on your earnings.
Any money you put into a Roth IRA can be pulled out tax-free so it can even be thought of as a piggy bank that gives you an inordinate amount of returns. You can withdraw contributions to invest in real estate ($10,000), certain educational expenses, and/ or health insurance if you are unemployed (read more here)! Contribution growth can range depending on the mutual fund:
Example: Vanguard Mid-Cap Index Fund Admiral Shares (VIMAX) has returned over an average annual return of 10% for investors since inception, 11/12/2011.
Investing in a low-fee (.05% expense ratio or less) index fund or mutual fund is a great idea for many reasons. One of the most compelling reasons to invest is the snowball effect:
John lives out in Washington, where it snows in the Winter. He decides to make the biggest snowball he’d ever make in his lifetime. He puts together some snow until it reaches the size of a fist. He then starts to roll it across the snow to grow it. After it reaches the size of a basketball, he eases it over to the edge of the hill and lets it roll. As it rolls down the hill, it not only gains momentum in speed but also in size. Upon getting to bottom of the hill, John finds the snowball that was once the size of his basketball to have grown to be higher than his Tesla.
So what does John and his snowball have anything to do with a Roth IRA? Let’s say an index fund grows 10% year over year as it did in the case above. It’ll take approximately 10 years, considering taxes and inflation, for the money that you invest to double. So if you put in $5,000 in a Roth IRA and never invest into it again, at the end of 10 years, you will have amassed $10,000. That’s a nice return for not doing much if you ask me.
Now say that you invest $5,000 every year for 10 years into a Roth IRA index fund. In 10 years, you will have grown the amount to $79,127. Not bad! If you continued to invest $5,000 a year for the next 35 years, you will have grown your investments to $753,028 all tax free. If you were invest in a traditional IRA with the same conditions above, you have a grand total of $1,495,634 but you would then need to pay taxes when withdrawing from your account.
How much can I Invest?
A Roth IRA allows you to invest a maximum amount of $5,500, post-tax, per year ($6,500/ year if over 50 by the end of the year) as long as your yearly modified adjusted gross income is less than $120,000 (single) or $186,000 (married) for the year 2018.
Where can I start Investing?
Highly rated platforms most commonly used to create Roth IRA accounts include: Vanguard, Fidelity, and Charles Schwab (if you choose to enroll in Charles Schwab, and use code: REFER616QU you can earn $100 for opening a retirement account).
- Vanguard: Minimum to start is $1,000; most minimums for investments are $3,000.
- Fidelity: At least $2,500 is required to start.
- Charles Schwab: $1,000; $100 if you do direct deposit, which is a great idea.
Investing into a Roth IRA is one of the most popular ways to invest due to its tax-deferred growth. The S&P 500 from 1928 to 2015 has produced an overall 11.41% (read more about it on Alpha). This means, if you were to add up all the years of returns and losses over the year, the S&P 500 has an average return of 11.41%. An easy way to start is to invest in a Roth IRA is to invest in an S&P 500 mutual fund. For example, if you choose to invest with Charles Schwab, you can invest in the Schwab S&P 500 Index fund ticker symbol (SWPPX). All in all, a Roth IRA is a simple, smart start to investing!
*I am not a professional in this field and am not advising you make a financial decision, rather to research and decide for yourself if this is a plausible retirement vehicle for you.