Should You Maximize Your Roth IRA In 2021?
Investing in a Roth IRA is a smart way to save for retirement, especially if you’re concerned about your future tax bill. But the stock market doesn’t exactly look like a good deal right now. Despite falling earlier this week, the S&P 500 the index is still up around 18% since the start of the year.
With stocks nearing record highs, does it make sense to maximize your Roth IRA in 2021? Or should you be hoarding your money in hopes of a sale? Here’s why putting money in your Roth IRA makes sense.
Why You Should Maximize Your Roth IRA
Roth IRAs have huge tax benefits. Even if you don’t get an initial tax break, your money grows tax-free. When you withdraw it, it’s 100% tax-free and penalty-free as long as you are 59 1/2 years old and have held the account for at least five years.
Because the tax benefits are generous, Uncle Sam only allows us to invest a limited amount: in 2021, the Roth IRA contribution limits are $ 6,000, or $ 7,000 if you’re 50 or over. .
Profiting from this tax-free growth is almost always a smart move. Don’t worry too much about whether the stock market is going up or down when you invest.
A study by Charles Schwab found that a hypothetical investor lucky enough to invest $ 2,000 in the S&P 500 Index at its lowest closing point each year between 2001 and 2020 would have had $ 151,391 after 20 years. But if this investor had been unlucky enough to invest at the peak of each of those 20 years, his investment would still have reached $ 121,171. Not too bad with a $ 40,000 investment.
Of course, no one has the chance to consistently predict when the market will hit its lowest point each year. Likewise, it would take an incredible streak of bad luck to consistently invest at the top of the market. The vast majority of investors will fall somewhere between these two extremes.
One way to increase your chances of success when you invest your Roth IRA is to practice cost averaging in dollars, where you invest a predetermined amount according to a set schedule. For example, you could contribute $ 500 per month, rather than investing $ 6,000 in a lump sum. Some months your money will go further than others, but you will reduce the risk of overpaying your investments over time.
Who Shouldn’t Fund a Roth IRA
There are a few circumstances in which you should not fund a Roth IRA. In particular, if you don’t have at least a three to six month emergency fund, focus on creating that fund first. This protects your investments in case you need cash during a stock market recession.
If you have high interest debt, like credit cards, pay it off first. The interest you pay is probably higher than the average stock market returns.
Before you maximize your Roth IRA, take advantage of any 401 (k) employer. Even if your business is only 25% or 50%, it’s basically an automatic 25% or 50% return on your investment. Once you’ve got this free money, try contributing to your Roth IRA.
If you can afford to invest, each year is a good year to maximize your Roth IRA. Compound income and tax savings will make your retirement years much richer.