Individual retirement account (IRA) growth depends on many factors. It relies heavily on the amount of money invested and how much risk the investor is willing to take, which shapes what types of investments are included in the account. Making regular contributions to the account also has a dramatic effect on the performance.
How Contributions Affect Growth
One impactful factor that determines the growth of an IRA is contributions. As of 2018, IRA contributions are limited to $5,500 a year, or $6,500 if you are over 50. If $5,000 is invested annually in an IRA with income-oriented vehicles such as certificates of deposits, or CDs, after 30 years the account is worth $350,000 (assuming an average interest rate of 5%). The fact that the interest can be reinvested and grow tax-free doesn’t hurt either.
The Magic of Compounding
Of course, to beat inflation, it is necessary to invest in higher-risk investment vehicles such as individual equities, index funds or mutual funds. IRAs can invest in a range of securities offered by various entities: public corporations, general partnerships (GPs), limited partnerships (LPs), limited liability partnerships (LLPs) and limited liability companies (LLCs). Investments held in IRAs that are related to these entities include stocks, corporate bonds, private equity and a limited number of derivative products.
Stocks are a popular choice for IRAs because the earnings gained are basically extra contributions to the IRA. Stocks also grow IRAs through dividends and increases in share price.While no one can predict the future, the annual range of return for stock investments has historically been between 8 and 12%. For example, by investing $5,000 a year in a stock index fund for 30 years with an average 10% return, you could see your account grow to $900,000. With such great potential to grow funds consistently over time with the magic of compounding, it is clear why stocks are almost always featured in IRA accounts.
Higher-risk investments such as stocks help grow IRAs most dramatically. More stable investments such as bonds are often included in IRAs for diversification, and to balance out the equities’ volatility with stable income.
Opening an IRA
An IRA can be opened through a range of major financial institutions, including brokerages such as Charles Schwab, Merrill Lynch, TD Ameritrade and Jefferies; mutual fund companies such as Fidelity, Vanguard and T. Rowe Price; and banks such as Wells Fargo, Citibank and Chase. IRAs can also be opened through Internet brokers such as E*Trade and Ally Invest.
The major difference between most IRA providers lies in what they charge for their services.
Just about any wage-earner can set up an IRA. Employers or self-employed individuals who want to establish retirement plans for themselves or their employees often consider simplified employee pension individual retirement account (SEP IRAs). SEPs have lower costs for setup and maintenance than traditional retirement plans do.
The Bottom Line
Few investment vehicles are as versatile as IRAs. Many options are available for investors to personalize accounts to help reach their financial goals. Younger investors tend to rely more heavily on the stocks, since they have the time to ride out volatile behavior, while investors closer to retirement normally focus on “safer” options such as money market funds, bonds or CDs.
IRAs are valuable tools for investors of any experience level. They allow investors the flexibility to be hands-on or to leave the c…