How to Open an IRA and Avoid the Pitfalls

You can wait to open your IRA until April 15th  next year if you want.  By why wait?  It’s a pretty easy process but you do need to be careful.  There are a few potholes you don’t want to step into. Those obstacles can cost you time and money. Who needs that?  Let’s go through the following checklist to make sure you don’t get stung by any unpleasant “surprises”.

1. Determine how you’re going to invest.

Before we go too deep please keep one thing in mind.  When you open an IRA you usually do two things.  First, you select a custodian (explained below) and then you invest the money.  The custodian simply holds the money and invests the money as you tell them to.   Are you a buy-and-hold investor or do you use different investment strategies? Are you going to use mutual funds, ETFs or individual securities? Are you going to buy real estate in your IRA? How are you going to allocate your retirement investments?

You have to be very clear on what kind of investments you’re going to make for two reasons:

a. Some IRA custodians don’t offer every investment choice.

b. Some charge more for transactions than others.

That’s why the first step is to get clear on what you want to invest in and how often you’re going to trade.  Once you know the answer to that, you can select the best custodian.

If you don’t know which are the best retirement investments for your situation, consider seeking professional guidance. I’m partial to impartial advisors . If you get advice from an insurance agent, you’ll end up owning annuities in your IRA (see below on why that’s a huge error). If you go to a broker for advice, they’ll sell you something they earn commissions on. An independent advisor is just that…independent. (Again, I’m biased because I’m an independent advisor, so take it with a grain of salt.)

2. Stay away from insurance companies.

These guys are tricky. They will be only too happy to open an IRA for you, but their “IRA” may not be the IRA you’re thinking of. They offer an Individual Retirement Annuity. Annuities are not wise IRA investments because the IRA is already a tax-advantaged account. You don’t need another tax-advantaged account within a tax-advantaged account. It’s a big waste.

Sure the good folks (and there are some) who offer annuities for retirement accounts will tell you that the annuities have guarantees that traditional mutual funds don’t. They will also tell you that the annuities sometimes make more money than the stock market. All that’s true, but it doesn’t matter.

Your retirement accounts are probably going to be important to you for a very long time. In any one year the annuity might outperform.  But what matters is the long-term fiend.  I can’t guarantee the future, but in my experience annuities within retirement accounts works out only for the insurance company – not for the investor.

3. Identify a list of potential custodians.

This is easy. Once you’re clear on how much you’re going to invest and how you want to invest it, get on the phone or internet. I’d suggest checking into TD Ameritrade, Schwab and Fidelity as well as with your bank and a few good online brokers. Compare the cost of doing the kind of investing you want to do and select the lowest-cost alternative. There will be trading and administrative costs. Ask questions about both.  If you know what you are doing, I’d strongly suggest the online alternative because it will save you money.

4. Think about your beneficiaries.

The beautiful thing about IRAs is that you get to name a beneficiary. This means you don’t need a trust or will when it comes to IRAs. Your beneficiary form takes precedence. I’ve written an entire post on how to select the right IRA beneficiary, so please review it. It’s super important to select the correct person.

5. Do not repeat this process next year.

I want you to make your IRA contributions each year. I just don’t want you to open a new account every year.  Why?  Because it’s a waste of time and energy and it’s easy to lose track when you have accounts all over town.

You can make numerous IRA deposits into one brokerage account. You don’t need to open a new IRA account each year. You’re far better off if you consolidate your IRAs as much as possible. So once you open your IRA, you can just dump your yearly deposits into that account and invest it as you like.

I know this can be confusing, but think of your IRA account as a big pot. Each year you’re going to add some ingredients (more money) into the “pot.” The stew changes each year because as you add money, you invest it as you see fit.

Opening an IRA is really easy. Don’t be intimidated. No matter what your experience or understanding is, you can do it. If you’re feeling a bit unsure, just tell the person you’re talking with about your anxiety. They’ll likely be extra kind and gentle. And if not, I guess that narrows the choices. It’s your money. Don’t ever do business with anyone who doesn’t answer your questions or treat you with utmost respect.

Are you going to open an IRA this year?  When?