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Individual Retirement Account (IRA)

Definition

Individual Retirement Accounts, or IRAs, were created by Congress in 1974 to benefit individuals that were not covered by an employment-based retirement plan such as a pension. An IRA is an investment mechanism for tax-deferred retirement saving that is under the control of individuals, not employers.

Explanation

IRAs allow individuals to set aside money on a tax-deferred basis for retirement. The various types of individual retirement accounts include:

  • Traditional IRAs: an individual retirement account that accepts both taxable and tax-deductible contributions. Money in the account grows on a tax-deferred basis; distributions from the account are taxable when withdrawn.
  • Roth IRA: an individual retirement account to which nondeductible contributions are made, but growth of the account as well as the withdrawal of funds are tax-exempt.
  • SIMPLE IRAs: Savings Incentive Match Plans for Employees, allow small businesses to offer employees a way to establish a tax-deferred retirement fund.
  • SEP IRAs: a Simplified Employee Pension, which can be established by employers or self-employed individuals.

Generally, withdrawals from an IRA can be made penalty-free beginning at age 59 1/2. Contributions to these plans can be both after-tax as well as tax-deductible. Eligibility may also be limited by income.

Related Terms

Traditional IRA, Roth IRA, SIMPLE IRA, qualified plan