Welcome to part 3, by now you have already created a budget, and leveraged your employer's 401k match to earn that free raise. Also, you have taken a look at all of your outstanding loans and started paying those down leveraging a method that you are going to stick to until you are debt free (nice job!) - or perhaps you did not have any “bad debt”. So what is next? How do we continue on our journey to financial independence?
We are going to look into the next tax advantaged account, IRA’s (individual retirement accounts). There are different types or IRA’s, and it is important to understand the difference, here is how fidelity defines the different types of IRA’s:
In this article, we are going to focus on the roth IRA, largely because we are going to take funds that we cannot move pre-tax, and put it into this IRA. That said, before we get started, there are restrictions on this type of fund.
The benefits to a Roth IRA are pretty obvious because they are leveraging the power of tax advantage. Roth IRA’s have the ability to grow your investments tax free, and you may be able to withdraw tax free as well in retirement. It should also be noted that while retirements normally means 59 ½ years if age, you can leverage these Roth IRAs to withdraw before that age.
Roth IRA Conversion Ladder
This is a fairly advanced concept - and it is explained in more detail at the blog referenced below, however the simple version is you are going to take funds from a traditional IRA and convert them to a roth each year. Then you use those funds 5 years down the line to withdraw tax free! A very powerful vehicle to save a huge amount on taxes. That said, when considering a Roth IRA Conversion Ladder, make sure you have the ability to survive for 5 years on other sources of income.
If you are in the earning bracket to take advantage of a Roth IRA, and you have the available funds, I highly recommend doing so. They are a great way to save on taxes, while leveraging your money to the best of its ability. If you are a high earner, stay tuned while we look into backdoor Roth contributions.
IRA Definitions: https://www.fidelity.com/building-savings/learn-about-iras/what-is-an-ira
Roth IRA Ladder: https://rootofgood.com/roth-ira-conversion-ladder-early-retirement/
I am just a regular guy who does far to much research on financial independence and early retirement (FI/RE). I look forward to sharing my journey with you all.