A traditional IRA is an individual retirement account held at a custodian institution like a bank or brokerage that may be invested in anything that the custodian allows, such as stocks and mutual funds. The only criterion for contributing to a traditional IRA is having enough income to do so. Traditional IRA contributions are tax deductible, however there are strict eligibility requirements based on income, filing status, and availability of other retirement plans such as those provided by an employer.
There are many advantages to utilizing a traditional IRA. One that everyone receives is the income’s protection from tax. This is equal to a benefit of a Roth IRA and is the dollars of tax that would have been paid on the income if it were earned in a taxable account. There is another benefit equal to the reduction in tax rates between the contribution and withdrawal, multiplied by the dollars withdrawn. Many taxpayers expect to be in a lower tax bracket when they enter their retirement, but the tax benefits experienced early on may add income later on when withdrawals are made and this can add income at lower progressive tax brackets. You can also checkout more of IRA here.
IRAs are also protected from creditors, however they are not eligible for collateral when trying to get a loan and borrow money. With a traditional IRA, there is the option to convert to a Roth IRA, however once this conversion is made, the account cannot be converted back to a traditional one. As this is just an option, owners have the ability to make this conversion at the optimal time, when the tax rate would be the lowest. An option like this allows flexibility, which can help hedge uncertainty about the future and can add value to a traditional IRA.
It should be noted that one of the main perceived benefits of a traditional IRA is actually not so. While many people think that the reduction in taxes in the year of contribution is a benefit, it is not, as the unpaid taxes are like taking a loan from the government that must be repaid in retirement when the money is withdrawn. As such, there is actually no benefit from the deferral because as the investments in the account grow, as does the size of the debt owed to the government. The reduction in taxes does not add any additional cash flow. While traditional IRAs have a lot of positives, there are also negatives that should be taken into account, as well.