IRA stands for individual retirement arrangement, but it is more accurately described as an individual retirement account. Though there are different types of IRAs, they all offer benefits that encourage people to save money for retirement. In this article, we’ll explain what an IRA is and how it works, by reviewing the tax benefits, contribution limits, and withdrawal rules.

Keep in mind, this information is intended for educational purposes only. We always recommend you consult a financial advisor and/or a tax professional when considering retirement and investment options.

How IRAs Work

When you open an IRA, you can invest your contributions in various assets, such as stocks, bonds, mutual funds, and other investment accounts. Compared to a 401(k), an IRA offers more control and flexibility over your investment choices. You can adjust your investment strategy over time to align with your risk tolerance and financial goals, either through research or with the help of a financial professional.

IRA Tax Benefits

The primary benefit of an IRA is that your contributions grow tax-free or tax-deferred, depending on the type of IRA you choose.

Eligibility for a tax deduction on Traditional IRA contributions depends on factors such as income and other retirement plan participation. With a Traditional IRA, you generally receive a tax deduction in the contribution year, and you pay taxes on distributions after you retire.

With a Roth IRA, contributions are not tax-deductible, but qualified distributions in retirement are tax-free.

Some financial institutions allow you to open an IRA with no minimum deposit requirement. In order to maximize the tax advantage of a Traditional IRA, you might want to consider contributing as much as you are eligible to each year.

IRA Contribution Limits

The government sets annual limits on IRA contributions. For 2025, if you’re under the age of 50, you can contribute up to $7,000 annually. If you're over 50, you can contribute up to $8,000. The annual IRA contribution limit may change annually based on inflation, so check the current limits each year.

You can contribute to your IRA anytime during the year. To determine the best contribution amount for your finances, consider aligning it with your monthly budget. A helpful way to simplify contributions and maintain consistency is by setting up automatic transfers from your checking or savings account into your IRA. This strategy can support your retirement savings goals and help you reach your annual contribution limit.

IRA Withdrawals

While you can contribute to your IRA and adjust the investments at any time, withdrawing funds before reaching age 59 ½ typically incurs a 10% early withdrawal penalty. 

Exceptions to this penalty may apply in certain qualifying circumstances, such as:

  • Birth or adoption of a child
  • Disaster recovery
  • Death
  • Permanent disability
  • Higher education expenses
  • Buying your first home

IRA Types

Traditional and Roth IRAs are the two main types. The biggest difference between the two is taxes. 

Traditional IRA

Anyone with earned income can open a Traditional IRA. Taxes on a Traditional IRA are deferred until retirement, at which point withdrawals are taxed on the full amount. Minimum withdrawals are required once you reach age 73. As previously mentioned, contributions to an IRA may also be tax-deductible, depending on your income and filing status.

Roth IRA

Eligibility for a Roth IRA is based on income level. With a Roth IRA, you’ll pay taxes on the income upfront, but your qualified withdrawals in retirement are typically tax-free. There is no age requirement to start making minimum withdrawals.

Contact HFCU today to learn more about IRAs and schedule a consultation with a financial advisor to discuss your retirement savings goals. Remember, this information is strictly educational, and we always recommend you seek professional guidance whenever possible.