TSP

Many people believe that, because they are contributing to the TSP, they are not allowed to contribute to an IRA. This misconception can be harmful to their wealth and their retirement. There were about a half-dozen participants in a recent class of 40 that believed IRA contributions were off limits to them because of their TSP participation. Not true!

To be perfectly clear: You can still contribute to an IRA even if you are fully-funding (maxing) your TSP account.

Depending on your level of income, you might not be able to deduct your contributions to a traditional IRA, or might not be allowed to contribute at all to a Roth IRA, but, as long as you are younger than 70 ½, you can contribute to a traditional IRA and benefit from its tax protections.

Let’s look first at the traditional IRA; anyone who has not yet reached the year in which they turn 70 ½ is allowed to make a contribution. The IRA contribution limit is $5,500; $6,500 if the age of 50 or older. For those with income below a certain level (see IRS Publication 590-A for the exact amount) contributions can be deducted from your taxable income. Those who are fortunate enough to earn above the deduction limits can still make a contribution; they just cannot deduct it from their federal income tax.

There is no age limit on contributing to a Roth IRA, though there is an income limit (which also can be found in IRS Publication 590-A) that precludes any contribution to a Roth. That hasn’t stopped those with income above the limit from contributing to a traditional IRA and executing an immediate “backdoor conversion” to a Roth IRA.

IRA – Additional Compound Interest

So, how much retirement savings can an individual miss out on if they do not contribute to an IRA? Quite a bit, it turns out. If we assume that an employee makes monthly contributions that add up to $5,500 per year for 30 years, and earns an average of 5% per year, they would have over $370,000 in their IRA at the end of the 30 year period. More than half of the final amount would be a result of growth, rather than the amount they contributed.

Someone who started later and contributed for 15 years, instead of 30, would still have over $120,000 in their IRA. In this case, the majority of the final amount came from contributions rather than from growth, showing the “power of compound interest”.

Why did the example have someone making monthly contributions instead of one lump sum contribution each year? Because automating your savings by means of a monthly direct debit from your checking account puts your savings on auto-pilot and you are much more likely to reach your goals with this systematic and disciplined approach.

Don’t delay – start today with your 2018 IRA contributions.

A couple of tidbits: As time moves on, there are changes to what we can and cannot do with our IRAs. Now that April 17th is in our rear view mirror, contributions to 2017 IRAs cannot be made; it’s time to focus on fully funding a 2018 IRA.

Beginning with 2018 Roth conversions, we are no longer allowed to un-do a Roth conversion, though we still have up until October 15th to un-do a Roth conversion that was made in 2017.