IRA contribution limits increase by almost 10% in 2019 – The Fool Motley

I will not keep you in suspense: you can contribute an extra $ 500 to an Individual Retirement Account (IRA) next year. The 9% increase to $ 6,000 in 2019 – $ 5,500 in 2018 – is the first increase since the contribution ceiling since 2013.

And most importantly, this increase could increase your retirement savings by tens of thousands of dollars due to composition. Read on to find out how this additional $ 500 contribution each year can help you reach your retirement savings goal faster.

What's an IRA again?

A staple of saving for retirement for many, ARIs allow people to make tax-efficient contributions in order to accumulate savings. You can contribute to a traditional IRA and get immediate tax savings, or you can contribute to a Roth IRA and benefit from tax savings in retirement.

Source of the image: Getty Images.

With a traditional IRA, you can claim a tax deduction up to the amount of your contribution in the year you make the contribution, if you qualify.

Specifically, if you report your tax as a married spouse and you are covered by a workplace pension plan, you will not be able to claim the full deduction if your common adjusted gross income is less than $ 103,000 in 2019. If you & # 39; If your plan is not covered by a workplace plan, the income cap for the total deduction is $ 193,000 next year. The limit for singles is lower. Singles who benefit from a workplace plan may receive the full deduction of their contribution only if their adjusted income is less than $ 64,000 in 2019.

With a Roth IRA, you can not claim a tax deduction in the year of your contribution, but contributions will be tax-free if the account is open for at least 5 years and you do not withdraw money before have reached at least 59 1. / 2 years. To pay all of the $ 6,000 possible to a Roth IRA in 2019, your adjusted gross income must be less than $ 122,000 if you are single or $ 193,000 if you are married and file a joint application.

This increase can add up over time

Although the increase is only $ 500 a year, the maximum contribution of $ 6,000 to an IRA each year could bring a lot of extra money to retirement.

For example, suppose Jeff is 45 years old and already has a retirement savings of $ 100,000. Under the previous $ 5,500 contribution limit from the IRA, he could get $ 987,762.26 at the age of 65 if he paid the maximum amount each year and got a yield of 10% per annum (the stock market return was historically about 10% per annum).

Following the increase in the IRA cap, Jeff's account could amount to $ 1,016,399.99 if he contributed up to $ 6,000 each year and realized an annual return of 10%. As a result, the $ 500 increase in the IRA limit generates an additional retirement savings of $ 28,637.73, whereas it has only been paid out additional contribution of $ 10,000 over the period ($ 500 per year for 20 years).

The impact of the new IRA contribution limit is even greater for a younger person.

Say that Kim is 35 years old and like Jeff, $ 100,000 has already been put into his IRA. The additional 10 years of contribution of $ 6,000 per year until the age of 65 gives a portfolio of $ 2,731,904.36. Under the contribution limit of $ 5,500, Kim would have obtained only $ 2,649,656.69. As a result, the contribution of this additional $ 15,000 over the 30-year period ($ 500 per year for 30 years) generated an additional $ 82,247.67 in his account.

Source of the image: Getty Images.

Here's what's behind this magic

A small amount of $ 500 more per year in contributions pays a lot more over time because of the composition.

In simple terms, compound interest is the ability to earn interest, and compound growth is the ability to earn returns on your returns.

For example, suppose you have $ 100 and you earn 10% a year in compound interest for five years. After the first year, you would have $ 110.

After the second year, you would have $ 110 plus $ 11 interest for $ 121. And the third year, you would earn 10% of $ 121 ($ 12.10) for a total of $ 133.10.

Over the five-year period, your investment of US $ 100 would increase to US $ 161.05 because of compound interest (but since equities do not produce a fixed annual return of 10%, these results are equal in the long run).

The capitalization potential to add so much more to retirement accounts makes the contribution of the extra $ 500 to your IRA next year compelling.