If you follow the Roth IRA Rules, any contributions you make towards a Roth IRA will grow tax-free for years to come, and with the power of compound interest, your money will grow at even a faster pace! Upon retirement, you will NOT have to pay taxes on your earnings as well. Furthermore, they allow you to invest in many different investments such as Bonds, Stocks, Real Estate, Derivatives, Mutual Funds and more.
A Roth IRA account can be opened until April 17th of the current tax year, and contributions can made starting from the previous year. The current maximum limit for 2006 is $4000. From 2010, the maximum Roth IRA contribution limit will rise to $5000.
Compound Interest & Roth IRA?
If a young saver at the age of 25 invests $4000 a year into a Roth IRA and earns 8% a year on his investment, he will have a huge nest egg of $1.1 million upon retirement (at the age of 65). What's more, none of this $1.1 million nest egg is taxable upon retirement!
Consider a contra-example scenario. If that same 25 year old young saver invests $4000 a year into a regular taxable savings account earning 8% interest, he would grow a nest egg of $800,000 upon retirement (at the age of 65) - assuming a 15% tax rate.
Characteristics of an IRA Account
*Distributions or Withdrawals on your contributions from an IRA account can be taken out at any time without incurring the 10% early withdrawal penalty fee in 401k accounts, as well as no taxes payable.
Note: A Roth IRA is meant for saving towards retirement and withdrawals from your retirement savings account are always discouraged (unless for emergencies and unexpected circumstances).
Note: Also note that withdrawals from your Contributions are non taxable. However, any earnings you have made on those contributions (such as the 8% interest earnings) is taxable at your local state & federal taxes and subject to 10% early withdrawal penalty fee (if withdrawn before the age of 59 and 1/2).
* The Internal Revenue Service (IRS) allows you to withdraw upto $10,000 tax-free from your IRA account to purchase your first home (primary residence) and achieve your American Dream. However, in order to be eligible for this provision, you must have had your IRA account open for atleast 5 years. Also, the $10,000 provision is meant per person. If you are a couple (have a spouse), you are eligible to withdraw $20,000.
* For example, if you open an IRA before April 17th of the year 2006, you will have to wait till April 17th of 2011 before you are eligible for the $10,000 tax-free withdrawal of $10,000.
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