A traditional IRA is a retirement savings account where you put in money before taxes are taken out, and the money grows without being taxed until you withdraw it

The basic idea is straightforward: you contribute money to the account, that money is not counted as income for tax purposes that year, and you do not pay taxes on the growth inside the account. When you withdraw the money after age 59½, you pay income tax on what you take out. This is different from a regular savings account, where you use after-tax money and pay no tax on the interest.

A traditional IRA is one of the most common ways people save for retirement outside of a workplace plan. You open one through a bank, credit union, brokerage firm, or investment company. The account itself is just a container — inside it, you can hold cash, stocks, bonds, mutual funds, or other investments, depending on where you open it.

Key Takeaways

  • Money you put into a traditional IRA may reduce your taxable income in the year you contribute, lowering your tax bill that year.
  • The money inside the account grows without being taxed each year, so your balance can compound faster than in a regular savings account.
  • You pay income tax on withdrawals after age 59½, and you must start taking withdrawals at age 73 (as of 2023).
  • You can contribute up to a set amount each year, which changes annually and depends on your age and whether you have a workplace retirement plan.
  • Withdrawals before age 59½ usually come with a 10 percent penalty on top of income tax, with some exceptions for hardship.

How the tax deduction works

When you contribute money to a traditional IRA, you may be able to deduct that amount from your income on your tax return. This means your taxable income for the year goes down, which usually lowers the amount of tax you owe.

Whether you can take the full deduction depends on two things: whether you or your spouse have a workplace retirement plan like a 401(k), and how much money you earn. If neither of you has a workplace plan, you can deduct the full amount you contribute. If one of you does have a workplace plan, the deduction starts to phase out once your income reaches a certain level — that level changes each year and is different for single filers and married couples filing jointly.

The deduction is not automatic. You claim it on your tax return when you file, usually on Form 1040. You do not need to do anything special when you make the contribution itself.

How money grows inside the account

Once money is in your traditional IRA, any interest, dividends, or investment gains are not taxed each year the way they would be in a regular investment account. This means your balance can grow faster because you are not paying taxes on the growth until you withdraw.

For example, if you put $5,000 in a traditional IRA and it earns $500 in interest in year one, you do not owe tax on that $500 that year. The full $5,500 stays in the account and can earn more the next year. In a regular savings account, you would owe tax on the $500 when ready, leaving less money to grow.

What you invest the money in — stocks, bonds, mutual funds, or cash — is up to you and depends on where you open the account and what options they offer. The tax benefit is the same regardless of what you choose.

Withdrawal rules and penalties

You can withdraw money from your traditional IRA at any time, but the tax consequences depend on your age. If you are 59½ or older, you can withdraw without penalty, though you will owe income tax on the amount you withdraw.

If you withdraw before age 59½, you typically owe a 10 percent penalty on the amount withdrawn, plus income tax. So a $10,000 withdrawal at age 45 would cost you $1,000 in penalty plus whatever income tax applies to your situation. There are some exceptions — withdrawals for a first home purchase (up to $10,000 lifetime), medical expenses, disability, or education costs may avoid the penalty, though you still owe income tax.

Starting at age 73, you must begin taking withdrawals whether you need the money or not. These are called required minimum distributions, or RMDs. The amount is calculated based on your age and account balance. If you do not take the required amount, you owe a penalty on the shortfall.

Contribution limits and who can open one

You can open a traditional IRA as long as you have earned income — money from a job or self-employment — in the year you contribute. There is no age limit to open one, and you can have multiple IRAs if you want, though your total contributions across all of them cannot exceed the annual limit.

The contribution limit changes each year. As of 2024, you can contribute up to $7,000 per year if you are under 50, and $8,000 if you are 50 or older (the extra $1,000 is called a catch-up contribution). These limits are set by law and adjust annually for inflation. You can find the current year's limit on the IRS website or by asking your bank or brokerage.

You have until the tax filing important date — usually April 15 of the following year — to make a contribution for the previous year. For example, you can contribute to your 2024 IRA until April 15, 2025.

Traditional IRA versus other retirement accounts

A traditional IRA is one option among several. If your employer offers a 401(k) or similar workplace plan, that is usually a separate account with its own contribution limits and rules. Some people have both a workplace plan and an IRA.

A Roth IRA is another type of IRA with the opposite tax structure: you contribute after-tax money (no deduction), but withdrawals in retirement are tax-free. A Roth makes sense if you expect to be in a higher tax bracket in retirement, or if you want tax-free growth. A traditional IRA makes sense if you want to lower your taxes now.

A SEP IRA or Solo 401(k) are options if you are self-employed or own a small business. They allow much higher contributions than a regular IRA.

Opening and managing a traditional IRA

You can open a traditional IRA at almost any bank, credit union, or brokerage. The process is straightforward: you fill out an process (usually online), provide identification and Social Security number, and choose what to invest the money in if the institution offers options.

Once it is open, you can contribute money whenever you want, up to the annual limit. You can set up automatic transfers from your checking account if you want contributions to happen regularly. You can also change your investments inside the account without tax consequences — moving money between funds or from stocks to bonds does not trigger taxes.

Keep records of your contributions, especially if you cannot deduct the full amount. If you contribute money that is not deductible, you will need to report that on your tax return so you do not pay tax twice on the same money when you withdraw it later.

Frequently Asked Questions

Can I have both a traditional IRA and a Roth IRA?

Yes. You can have both accounts at the same time, but your total contributions to all IRAs combined cannot exceed the annual limit. If you contribute $4,000 to a traditional IRA, you can only contribute $3,000 to a Roth that year (assuming the $7,000 limit for 2024).

What happens to my traditional IRA if I die?

Your beneficiary — usually a spouse, child, or other family member you name when you open the account — inherits the IRA. The rules for what they can do with it depend on their relationship to you and have changed in recent years. They should contact the institution holding the IRA to understand their options.

Can I withdraw money to buy a house?

First-time homebuyers can withdraw up to $10,000 lifetime from a traditional IRA without the 10 percent early withdrawal penalty, though you still owe income tax on the amount. You must use the money within 120 days of withdrawal, and you may have access to only once in your lifetime.

What if I have a workplace 401(k) — do I still need an IRA?

You can have both. Some people max out their 401(k) first because the contribution limit is much higher, then use an IRA for additional savings. Others use an IRA if their employer does not offer a 401(k). The choice depends on your income, how much you want to save, and whether you can deduct the IRA contribution.

Do I have to invest the money, or can I just keep it in cash?

You can keep it in cash if you want — many banks offer IRAs that work like savings accounts. You will earn less growth than you might with stocks or bonds, but there is no requirement to invest. The tax benefits are the same either way.