Which IRA is right for you?

Opening first IRA can be a daunting proposition

With fewer young adults getting full-time jobs at companies with pension or 401(k) plans, more need to take it upon themselves to open individual retirement accounts.

You can still make an IRA contribution for 2011 until April 17. But unless you have a business degree or helicopter parents, opening your first IRA can be a daunting proposition.

What started as a simple product 38 years ago now has six versions: There are traditional (deductible and nondeductible), Roth, SEP, Simple and self-directed IRAs. Each has different eligibility requirements, contribution limits and tax benefits.

Until recently, it was hard to find an IRA that didn't require either a sizable investment or an annual maintenance fee, although that's starting to change.

Ashley Haver of San Mateo, Calif. used her tax refund to open her first IRA. Haver, 23, has been working at a furniture store for seven years and putting herself through college. She recently got a second part-time job at an insurance company, where she saw parents opening investments and college-savings accounts for their children.

She set up an appointment with an adviser at Chase, who gave her a risk-tolerance quiz and explained the options.

The most confusing part, she says, was understanding the difference between Roth and regular IRAs.

With a regular (also called traditional) IRA, money you put in is deducted from your income for that year as long as you meet the requirements for a deductible IRA. The deduction reduces your taxes for that year.

Money in the account grows tax free, but when you take it out, every dollar is taxed as ordinary income, just like income from a job.

A Roth IRA is almost the mirror image: You get no tax deduction for money you put into the account, so it won't lower your taxes immediately. But the money your Roth IRA earns grows tax-free and generally will never be taxed if you leave it in the account until age 59 1/2.

Which is better?

Here's a rule of thumb: If your tax rate is higher today than it will be when you withdraw the money, the regular IRA is the better choice. If your tax rate is lower today than it will be when you withdraw the money, choose the Roth.

Jeff Levine, an IRA technical consultant with Ed Slott and Co., recommends Roth IRAs for young people because their tax rate is usually lower today than it will be when they retire. Also, it gives them more flexibility if they need to withdraw the money before age 59 1/2.

Each year, you can contribute up to 100 percent of your income or $5,000, whichever is less.

If you are self-employed and want to contribute more than $5,000, consider opening a SEP-IRA.

You can make a contribution for one year until the tax-filing deadline of the next year.

Haver says she chose a Roth IRA for her 2011 contribution because she already filed her 2011 taxes and didn't want to file an amended return to take a deduction for a traditional IRA.

You can put almost any investment in an IRA, including savings accounts, certificates of deposit, stocks, bonds and mutual funds.

Haver paid a one-time commission of 4 percent on her investment of several thousand dollars, which she could have avoided if she had gone with no-load mutual funds or exchange-traded funds. Going that route takes a little more work than going with your local bank.

One option is to set up an account with a no-load fund company such as Fidelity, Vanguard or T. Rowe Price, where you can buy a relatively low-cost fund without a commission.

A good starter investment is a target-date retirement fund. These combine stock and bond funds into one widely diversified fund that gradually gets more conservative (adding bonds and subtracting stocks) as the target date nears.

None of these fund companies charges an annual IRA account fee, although they do require minimum investments in their funds. Like all funds, each fund charges an annual fee known as the expense ratio.

Vanguard requires a $3,000 minimum investment in each of its funds, except for its Star and target date funds, which require $1,000 and are good low-cost, diversified options for starter IRAs.

Fidelity also has a good selection of no-load funds, and unlike Vanguard, it has branches where you can talk to an adviser in person. But its funds require a minimum investment of $2,500.

Most T. Rowe Price funds require $1,000.

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