How does an IRA savings account work, and how can it work for you?

When you’re deciding how to save money for retirement, the sheer number of options can be overwhelming. But don’t overlook one safe and interest-bearing possibility for your money, which often flies under the radar: the IRA savings account.

For Bert Doerhoff, a wealth advisor at Aura Wealth Advisors, helping clients navigate the risks and rewards of saving and investing for a financially secure retirement is all in a day’s work. Here, Doerhoff walks through the benefits and features of IRA savings accounts and helps answer a question you may have, whether you’re nearing retirement or just starting to think about it: “What is an IRA savings account, and how does it work?”

What is an IRA savings account?

Saving and planning for retirement is a lot like the epic journeys you see in big-budget sci-fi and fantasy movies—but with less magic and fewer dragons. As you embark on your own path to retirement, an IRA savings account can be your trusty sidekick—dependable and comforting.

However, you may be asking, “What is an IRA savings account?” An IRA savings account combines the safety and reliable returns of a savings account with the tax benefits of an IRA, and it can play an important role as you consider how to plan for retirement.

When you open an IRA savings account, the amount of money you contribute to it counts toward your annual IRA contribution limit. For 2024, the IRA contribution limit is $7,000 for people under age 50 and $8,000 for people age 50 or older. Certain factors may reduce amounts you can contribute or take a tax deduction for the contribution.

Unlike an IRA CD account, an IRA savings account doesn’t typically require a minimum deposit. This makes it a great option for savers at any budget level. An IRA savings account also affords you more flexibility, as you can make withdrawals without triggering bank penalties. Keep in mind that you may have an IRS early withdrawal penalty if you withdraw your funds prior to age 59½. Consider consulting a tax advisor to discuss your specific situation.

In contrast to stocks, exchange traded funds, and mutual funds, an IRA savings account returns a good rate that isn’t tied to the swings of the stock market.  

The 3 biggest benefits of an IRA savings account

It’s important to understand how an IRA savings account works as you design the retirement savings strategy that best fits your financial goals. Wherever you are on your path to retirement, keep in mind the three main benefits of integrating an IRA savings account into your retirement savings plan:

1. Safety. The money in your IRA savings account isn’t vulnerable to a market crash. It will always be there when you need it.

2. Good rate of return. Similar to a high-yield savings account, an IRA savings account can provide a solid interest rate.

3. The power of compounding. Over time, your money will grow faster thanks to the power of compound interest.

The advantages don’t stop there. As you investigate how an IRA savings account works, you may want to examine the tax advantages of each type of IRA savings account and how it might play a key role in your retirement savings strategy. Read on to learn more.

What are the tax advantages of an IRA savings account?

IRA savings accounts are available in either a Roth IRA, a Traditional IRA, or both, which allows you to enjoy the unique tax advantages of those savings vehicles. As mentioned above, there may be IRS early withdrawal penalties depending on your plan type and the age at which you withdraw your funds, so you may want to discuss your situation with a tax advisor.

Whether to go the Traditional or the Roth route is an age-old question. “You tell me what’s going to happen at the end of your life, and I’ll tell you what you should do at the beginning,” Doerhoff says. But deciding to go one way or the other—or going half and half—isn’t as important as starting to save for retirement as early as you can, he says.

To decide which type of IRA savings account you need, it may be helpful to understand the unique tax benefits and terms of the Traditional IRA vs. Roth IRA.

Tax advantages of an IRA savings account within a Traditional IRA

If you contribute to an IRA savings account within a Traditional IRA, you may be able to deduct that amount from your income to lower your tax bill. That money then grows tax-free until you decide to withdraw from it in retirement, at which point you pay income tax on the disbursement.

You can begin distributing funds without penalty at age 59½. If you distribute funds before then, you may be subject to an IRS early withdrawal penalty. Required Minimum Distributions (RMDs) are required to start by age 70½ if you were 70½ by 12/31/2019. Distributions are required to start by age 72 if you turned 72 from 1/1/2020 to 12/31/2022. If you turned 73 in 2023 or years following, distributions will not be required until you are age 73. Starting in 2032, the RMD age will be 75.

Tax advantages of an IRA savings account within a Roth IRA

If your IRA savings account is within a Roth IRA, then any contributions can’t be deducted from your income to reduce your annual taxable income. However, when you pull that money out in retirement, you won’t be required to pay taxes on the gains. You will also not be taxed on the principal/contributions that are withdrawn, either.

With a Roth IRA, you’re allowed to withdraw earnings without penalty at age 59½ if your account is at least five years old. If you distribute funds before then, you may be subject to an IRS early withdrawal penalty. Roth IRAs do not have the RMD rule that Traditional IRAs do. You are not required to distribute earnings once you reach the RMD age required with a Traditional IRA. You can let your account grow tax-free. You are not required to distribute the principal, either.

How you can use an IRA savings account along your retirement savings journey

With its secure and steady returns that can provide an alternative to the ups and downs of the stock market, the IRA savings account can be a strategic place to keep retirement funds. Doerhoff explains how an IRA savings account works as you move closer to retirement.

Using an IRA savings account early in your retirement savings journey

Too often, Doerhoff says, inexperienced investors will put their first chunk of savings into the stock market, only to panic and sell when the value drops.

“The pain of it going down and seeing your investments lose money is twice as strong as the joy of watching it go up,” he says.  

Averaged out over time, the typical portfolio mix will likely be 60% equity and 40% fixed income, Doerhoff says.

By “equity,” Doerhoff is referring to stocks, or shares of publicly traded companies. Stocks are riskier assets than government bonds, corporate bonds, and IRA savings accounts, which all fall under the umbrella of “fixed income” assets.

“Don’t start [with stocks] because it’s going to put that knot in your stomach the first time it drops,” he says.

Instead of diving headfirst into the choppy waters of the stock market, Doerhoff recommends dipping a toe into calmer waters—in an IRA savings account, which has no minimum opening deposit, offers plenty of flexibility, and provides a good rate of return that isn’t tied to the stock market.

“Start putting your money in an IRA savings account and let it build,” he recommends.

Using an IRA savings account in your prime earning years

As you start making higher levels of income in your career, you’ll see that the value of your IRA has grown. At this point in your life—typically in your 40s and 50s—you may feel more prepared to take greater risks with your hard-earned savings.

“Once you have something built, then you can start diversifying to get more over into the equity and fixed-income mix,” Doerhoff says.

With this approach, according to Doerhoff, you’re moving more money from your IRA savings account into stocks, bonds, and other riskier securities during your high-earning years.

Using an IRA savings account as you approach retirement

As you approach your target retirement age, Doerhoff says the IRA savings account can again take a more prominent role in your overall IRA portfolio. “The closer you get to retirement, the less aggressive you want to be with that portfolio,” he says. This can be an important consideration as you decide when to retire.

Because you’re going to need your retirement savings to support you in retirement, you likely won’t want as much of it in riskier assets like stocks. Not only will that put your retirement savings at risk just as you need them, but it could also lead to some sleepless nights.

As you near your retirement goal, Doerhoff says your IRA savings account can be where you lock in those earnings as you enter a worry-free retirement.

“You want to have it to where, during the market downturns, you have a nest egg over in your IRA savings account that you can draw on,” Doerhoff says, “so that as the market recovers you don’t have to dip into the part that’s invested in the market.”

When Doerhoff talks about saving for retirement, a consistent theme is finding the right balance in your savings plan. You’ll know you have that balance if your IRA portfolio has you on track to meet your retirement goals, but the risk doesn’t keep you up at night.

Ignore the people who brag about a skyrocketing stock they got into early, he says, because what they aren’t telling you about is all the money they’ve lost on the stock picks that have gone belly up. Doerhoff says that while your friends might not know what an IRA savings account is, it will still be there for you when you need it in retirement.

What to consider when choosing an IRA savings account

Now that you know what an IRA savings account is and how an IRA savings account works, it’s time to find the one that’s right for you. As you decide where to open your IRA savings account, Doerhoff recommends choosing a financial institution that you trust and are familiar with.

Keep in mind that not all IRA savings accounts are the same. While evaluating your options, be sure to look for the features below (all of which are offered with the Discover^® IRA Savings Account) as you narrow down your choices:

• Competitive interest rate. Ensure you’re making your money work for you.
• No minimum opening deposit. This allows you to start saving as quickly as possible, with any amount—even if you’re starting small.
• Both Roth and Traditional options. The more options for tax advantages, the better.
• No account fees. These can really eat into your long-term returns.
• No transfer fees. Maximum flexibility will allow you to evolve your savings strategy as you age.
• Easy to use and access. You want account control at your fingertips from your desktop or through an intuitive mobile app.

Doerhoff notes that retirement is expensive, so making a plan and beginning to save now couldn’t be more important.

An IRA savings account can provide a safe, dependable way to save for your retirement goals. Wherever you are in your retirement journey, there’s no better time to start planning than now.

* The article and information provided herein are for informational purposes only and are not intended as a substitute for professional advice. Please consult your tax advisor with respect to information contained in this article and how it relates to you.

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