How to Choose an Investment in the Roth IRA
Establishing a Roth IRA can be a prudent investment strategy for helping achieve long-term retirement goals. As a Roth IRA is funded with after-tax dollars, withdrawals from the Roth are generally tax free. In addition, investments grow tax-free while held in the account. However, choosing the investments to put in a Roth IRA is another factor to consider. Based on the tax-advantaged benefits of the Roth IRA, certain investments may hold more appeal.
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Instructions
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Assess your overall financial picture. The investments you consider for your Roth IRA could vary dramatically based on what other investments you already own. For example, if your Roth IRA is your entire savings and investment plan, you might consider investments that are more conservative. If your Roth IRA is merely a supplement to already diverse holdings, then you can afford to consider more aggressive investments for your Roth. You must also consider your personal risk tolerance. Your overall investment allocation might suggest a more aggressively invested Roth IRA, but if you cannot handle wide swings in valuation, you may still be more comfortable with a conservative investment plan in your Roth.
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Consider your tax situation. If you are in a high-tax bracket, consider investing your Roth in income-producing securities, such as bonds or certificates of deposit (CDs). Save your individual stocks and mutual funds for a regular, taxable investment account. As tax law stands, most income you earn from interest payments is taxed at your regular income tax rate, which is generally higher than the capital gains tax rate. As investments in a Roth IRA grow tax-free, it makes sense to put your most-taxed investments in the tax-free wrapper of the Roth, and to save your lower-taxed investments, such as individual stocks, in your regular taxable account.
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Analyze your investment options. For this step, your investment analysis should be the same, regardless of whether you intend to invest in a Roth IRA or a taxable account. Things to consider when choosing an investment include your time horizon, which is how long until you will use the invested money; your risk tolerance, which is how comfortable you are with fluctuations in account value; and your investment objective, which is whether you want long-term growth, current income, or a blend of the two. Just these three basic steps will help you sort through a large number of the stocks, bonds and mutual funds that are available for you to purchase. Stay diversified, and make sure each investment you select serves your stated investment goal.
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Tips & Warnings
Choosing specific securities suitable for your long-term investment plan can be complicated. You may want to consult a financial adviser to help you determine appropriate investments for your needs.
