Ask MAX: A Fee-Free IRA?

February 17, 2006

Dear MAX,

I want to get an IRA started for my wife and I this year. I understand we can contribute $8,000 between the two of us. I have read several sources stating that a self-directed IRA will allow me to keep more of my money.

I have had no problem finding brokerage firms to set up IRAs, but how do I go about doing this without paying a broker? Also, many mutual funds have minimum investments of over $8,000. Are these funds out of the question for me?


Dear Randy,

Individual Retirement Accounts were established by an act of congress in 1974, and have been confusing the heck out of individual investors ever since. With no less than eleven distinct varieties of IRAs, ever-shifting contribution limits and distribution formulas you need a degree in advance mathematics to understand, it’s no wonder we're all occasionally left scratching our heads.

Let’s run down your questions one by one:

First, contribution limits (okay, you didn't actually ask about contribution limits but you did mention it so I'm taking the liberty):

For married couples who file their income taxes jointly that are under 50 years of age, the maximum combined contribution amount for ROTH and the traditional IRAs (the two most common types) is indeed now $8,000, or $4,000 per year from each of you.

Starting with tax year 2006, if either of you is over 50 that person can contribute an additional $1,000, or $5,000 per year. This is called a “catch-up” contribution.

Beginning in 2008, the maximum contribution limit for people under 50 will increase to $5,000 and to $6,000 for people over 50.

Traditional, deductible IRAs have no income restrictions unless your combined income is over $150,000 and one of you is covered by a retirement plan at work and you file jointly. Assuming you are both under 50 and are not covered by another plan, you can each contribute $4,000 per year to your IRA.

ROTH IRAs are available only to single people making less than $110,000 annually, or married couples making less than $160,000. Only single investors making less than $95,000 or married couples filing jointly making less than $150,000 can maximize their contributions to ROTH IRAs.

Investors who make more than the lower number ($95,000 or $150,000) but less than the higher number ($110,000 or $160,000) can still contribute, but the amount is subject to a 'phase out' formula that is so devious in its complexity that attempting to explain it here would cause more confusion than enlightenment (read: we can’t figure it out). We will point you toward this Internal Revenue Service publication that includes a worksheet (Worksheet 2-2, scroll down the page a bit) that is, incredibly, not too difficult to use.

Setting up a self-directed IRA is actually quite easy. Simply contact E*Trade, Scottrade, Ameritrade, Schwab, or whatever brokerage you choose, and ask them to send you the forms to set up a ROTH or traditional IRA. These forms are slightly different from those you would use to set up an ordinary taxable account. But that's just about the only difference you'll notice between an IRA account and a taxable account you may already have at your discount broker. That, and you can’t use margin or trade options and futures in an IRA (though you can buy mutual funds that do so).

Same drill if you want to set up an account at a fund company like Vanguard or T. Rowe Price. Simply call them up and ask for the correct forms. Fill them out, send them in, and before you know it you'll be running your own self-directed IRA account. As long as you buy only no-load funds for your IRA (which we HIGHLY recommend you do) you won't be paying a broker one red cent for any of it. Brokers and funds love IRA money as it tends to stick around. Make sure you get the best deal possible – some brokers charge fees to handle an IRA. For example, E*TRADE charges a $25 annual custodial fee, but only if you choose paper delivery of account documents and statements.

As far as minimum investment requirements, we've got some good news: Most mutual funds have significantly lower minimum investment amounts for IRA investors. The T. Rowe Price Blue Chip Growth (TRBCX) fund has a $2,500 minimum investment requirement for taxable accounts, but just $1,000 for tax-deferred accounts. The Payden Global Fixed Income fund (PYGFX) has a $5,000 minimum investment requirement that is reduced to just $2,000 for IRA contributors.

Thanks for the question.


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