IRAs are individual retirement accounts established by the IRS. IRAs shelter your retirement savings from current taxation. In return for this benefit, certain rules are established for contributions to and withdrawals from the IRA. Two types of IRAs you may invest in are known as "investment IRAs" and "Savings IRAs."
Types
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An investment IRA invests in mutual funds, stocks, bonds, precious metals or real estate. A savings IRA is an account held at a bank that invests in a bank certificate of deposit, called a bank CD.
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Function
The purpose of the investment IRA is to grow your retirement savings using investments. These investments may be bought and sold inside the IRA, and all transactions are tax-free. A savings IRA's bank CDs invest in the bank's fixed investments and loan portfolio. The CDs pay a fixed rate of return that is guaranteed by the bank.
Benefits
The benefit of a savings IRA is that the interest rates are guaranteed.You cannot lose any money, since the CDs in the IRA are insured by the FDIC. The benefit of the investment IRA is that the interest earnings are potentially greater than the savings IRA's. The investment IRA might provide more income during your retirement.
Disadvantages
The disadvantage of an investment IRA is that it could lose substantially all of its value if the investments do not perform as expected. If this happens, you could wind up with much less than you expected for your retirement.
Considerations
When choosing your IRAs, decide what you need your IRA to do for you. Analyze your goals and align them with a central purpose. For example, do you value safety over high-potential savings? Or, do you have a short time to reach retirement and need to make up for years of poor investment performance? These factors will determine which type of IRA is best for your situation.