You have done some financial planning and have jumped through the hoop of opening an traditional Individual Retirement Account (IRA) as a way to reduce your tax burden today and save for retirement. However, once your account is open you must consider how to invest the money in your account. As with all financial planning issues, the more information you have the better choices you will make for your own situation.

The primary benefit, after the initial tax deduction, of traditional IRAs is that they provide tax-deferred growth. You can trade assets within your IRA and earn income, but you will not pay taxes on that growth until you take the money out of the account. Many investors lump all their money into stocks since they have the greatest growth potential. However, one issue to consider is that stocks held outside of an IRA enjoy a reduced tax rate of 15% on dividend earnings as well as any stock sale. Inside an IRA those same stocks will grow tax-free, but when you withdraw the funds you will be taxed at whatever income bracket rate you fall into. It is not always possible to know the bracket you will be in, but understanding how the tax code and your IRA work is essential to making the wisest choices.

When you’re investing for your IRA, you must be aware of your current and potential future tax burdens. Do not blindly put all your money into stocks. Understand how taxes work on both stocks and bonds. You can then create a balanced plan that provides you with the best return when you retire.

Source: Motley Fool