What Is a Traditional IRA and How Does It Work?

You've heard you're supposed to be saving for retirement, but between the acronyms, the rules, and the contribution limits, it's easy to freeze up and do nothing. The traditional IRA is one of the most powerful retirement tools available — and it's simpler than it looks. Here's exactly how it works and how to use it to build real wealth.

---

What Is a Traditional IRA?

IRA stands for Individual Retirement Account. It's a tax-advantaged savings account you open yourself — not through an employer — designed specifically for retirement savings.

A traditional IRA lets you contribute money on a pre-tax basis, meaning the money you put in may be deducted from your taxable income today. Your investments then grow tax-deferred — you don't pay taxes on gains, dividends, or interest while the money stays in the account. You only pay taxes when you withdraw money in retirement.

Here's why that matters: if you're in the 22% tax bracket and contribute $6,000 to a traditional IRA, you could reduce your taxable income by $6,000 — saving $1,320 in taxes this year. Meanwhile, that $6,000 compounds for decades before you owe a dime on the growth.

---

Who Can Contribute to a Traditional IRA?

Anyone with earned income can contribute to a traditional IRA. Earned income includes wages, salaries, self-employment income, and tips. It does not include investment income, Social Security, or pension payments.

2025 contribution limits:

• Under age 50: $7,000/year
• Age 50 or older: $8,000/year (the extra $1,000 is called a "catch-up contribution")

You can contribute to a traditional IRA even if you have a 401(k) at work — but your ability to deduct the contribution phases out at higher incomes if you (or a spouse) are covered by a workplace retirement plan.

• Single filer covered by workplace plan: deduction phases out between $77,000–$87,000 (2025)
• Married filing jointly, both covered: phases out between $123,000–$143,000

If your income is above those limits and you're covered by a 401(k), you can still contribute — you just can't deduct it. That's called a non-deductible IRA contribution, and it has its own set of rules.

---

How Does the Tax Deduction Work?

The tax deduction is the traditional IRA's signature benefit. When you file your taxes, you can deduct your IRA contribution from your gross income — directly reducing the amount of income subject to tax.

Example:

• Gross income: $65,000
• Traditional IRA contribution: $7,000
• Adjusted gross income: $58,000
• Tax savings at 22% bracket: ~$1,540

You're essentially getting a discount on your retirement investing, paid for by the IRS. That's a significant advantage — especially early in your career when tax savings can be reinvested to compound over time.

The deduction shows up on your Form 1040. You don't need to itemize to claim it — it's an "above-the-line" deduction available to everyone.

---

What Happens When You Withdraw the Money?

Here's the trade-off: traditional IRA withdrawals in retirement are taxed as ordinary income. You deferred the tax, not eliminated it.

Rules to know:

Required Minimum Distributions (RMDs): Starting at age 73, you must withdraw a minimum amount each year from your traditional IRA. The IRS won't let you defer forever. RMDs are calculated based on your account balance and life expectancy.

Early withdrawal penalty: If you take money out before age 59½, you'll generally owe a 10% early withdrawal penalty on top of income taxes. There are exceptions — first home purchase, higher education expenses, disability, substantially equal periodic payments — but early withdrawals should be avoided in nearly all cases.

Roth conversion: At any point, you can convert a traditional IRA to a Roth IRA. You'll pay taxes on the converted amount in the year of conversion, but future growth and qualified withdrawals become tax-free. This strategy is worth exploring, especially in low-income years.

---

Traditional IRA vs. Roth IRA: Which Should You Choose?

The traditional IRA wins when you expect to be in a lower tax bracket in retirement than you are today. You pay tax at a lower rate on the way out.

The Roth IRA wins when you expect to be in a higher tax bracket in retirement — or when you're early in your career and in a low tax bracket now. You pay tax at a low rate today; all future growth is tax-free.

The general rule of thumb:

• Low income now (under $50,000 single / $100,000 married): lean toward Roth
• Mid-to-high income now (over $80,000 single / $160,000 married): lean toward traditional IRA or 401(k) for the deduction
• High income (over the Roth income limits of $161,000 single / $240,000 married): traditional or backdoor Roth

If you're unsure, split the difference: contribute to both a traditional IRA and a Roth IRA (as long as your combined contributions stay within the annual limit), or use the traditional IRA for the deduction and convert to Roth in low-income years.

---

How to Open and Fund a Traditional IRA

Opening a traditional IRA takes about 15 minutes. Here's how:

1. Choose a brokerage. Fidelity, Vanguard, Schwab, and Betterment are all solid options. Look for no account minimums and low-cost index funds.
2. Open the account. Select "Traditional IRA" from the account type options. You'll need your Social Security number, address, and bank account for funding.
3. Fund it. Transfer money from your checking account. You have until the tax filing deadline (typically April 15) to make contributions for the prior tax year.
4. Invest the money. An unfunded IRA earns nothing. Choose a low-cost index fund — a total stock market fund or target-date fund is an excellent starting point for most investors.

The worst mistake people make is opening the IRA and leaving the money as uninvested cash. Your contributions must be invested to grow.

The traditional IRA is a straightforward, powerful tool for building retirement wealth. If you're not using it, you're leaving tax-advantaged growth on the table every year. Open one this week.