# What is an IRA and how does it work?

> An IRA is a retirement account you open yourself. Anyone with pay from work can use one, and you pick its investments.

Source: https://www.walletprep.com/learn/what-is-an-ira/ · Updated 2026-10-01 · Investing

An IRA, or individual retirement account, is a retirement account you open yourself at a brokerage, with no employer involved. Anyone with pay from work can put in up to a yearly limit, and you choose the investments that go inside it.

## Key facts
- **You open it, not your employer.** An IRA is an account in your own name at a brokerage, which is a company that holds investments for you. It takes about 15 minutes online, and it moves with you from job to job.
- **You need pay from work.** You can contribute if you earn wages, salary, tips or self-employment income. A spouse with little or no pay can use the working spouse's income to fund an IRA, if they file taxes jointly.
- **It is a container.** Moving money into an IRA does not invest it. You still choose funds inside the account, or the money sits as cash and barely grows.
- **There is a yearly limit.** You can put in up to $7,500 in 2026, or your pay from work if that is less. People 50 and over can add $1,100 more.

## Who an IRA is for
An IRA is for anyone who earns money from work and wants to save for retirement. It is the main option if your job has no 401(k), if you freelance or work gigs, or if you want to save more after getting your 401(k) match.
You can have an IRA and a 401(k) at the same time. Their limits are separate, so using one does not use up room in the other.

## How to open one
Pick a brokerage. Online brokerages, some banks and robo-advisers (services that pick funds for you) all offer IRAs. Look for no account fee and low-cost index funds.
You will need your Social Security number, a bank account to link and a beneficiary, the person who gets the money if you die. Then choose the type of IRA, traditional or Roth, and move money in from your bank.

## Choosing what goes inside
This is the step people miss. An IRA is the container, and the investments go inside it. When money arrives, it usually sits in a cash holding until you buy something.
Most IRAs let you buy almost any fund, stock or bond the brokerage sells, a much wider choice than a 401(k) menu. More choice can feel like more pressure. A single target-date fund or a broad index fund is a common simple pick. Many brokerages let you set new deposits to buy your chosen fund automatically.

## Traditional or Roth
Like a 401(k), an IRA comes in two kinds. A traditional IRA may give you a tax deduction now, and you pay income tax when you take the money out. A Roth IRA gives no break now, and qualified withdrawals in retirement are tax-free.
Each kind has income rules. Whether a traditional IRA is deductible depends on your income and whether you have a plan at work, and Roth IRA contributions phase out at higher incomes. The Roth vs traditional lesson covers how to choose.

## An IRA and a 401(k) side by side
Who sets it up: a 401(k) comes from your employer, and an IRA is one you open yourself. How money goes in: a 401(k) takes it from your paycheck, and an IRA takes transfers you set up from your bank.
Yearly limit: $24,500 for a 401(k) and $7,500 for an IRA in 2026. Employer match: only a 401(k) can have one. Investments: a 401(k) offers a short menu, and an IRA offers almost anything the brokerage sells.
Income limits: a Roth 401(k) has none, while a Roth IRA does. Early withdrawals: both usually charge income tax plus a 10% additional tax before age 59½, with some exceptions.

## Where an IRA fits in your plan
A common order is to take any 401(k) match first, then fund an IRA, then go back and add more to the 401(k). If you have no workplace plan, the IRA is your first stop.
When you leave a job, you can also move your old 401(k) into an IRA, called a rollover. Your money stays invested in one place you control, with no taxes owed if you move it directly.

## A worked example: $250 a month in an IRA
Leo, 27, works for a small company with no 401(k). He opens a Roth IRA and sets up $250 a month. He compares investing it with leaving it as cash.

- Monthly transfer: $250
- Put in a year: $3,000
- Put in over 30 years: $90,000
- Growth at an assumed 7%: $214,993
- Invested after 30 years: = $304,993
- Left as cash earning 0%: $90,000

1. Leo puts in $250 × 12 = $3,000 a year, well under the $7,500 yearly limit.
2. Over 30 years his deposits add up to $3,000 × 30 = $90,000.
3. In a broad index fund at an assumed 7% a year, growth adds about $214,993, for $304,993. Returns vary and can be negative.
4. If he never picks a fund and the cash earns nothing, he has just the $90,000 he put in.

### Leo's $250 a month in an IRA, assuming 7% a year before inflation. Returns vary and can be negative.

| Year | You put in | Growth | Balance |
| --- | --- | --- | --- |
| 1 | $3,000 | $98 | $3,098 |
| 10 | $30,000 | $13,271 | $43,271 |
| 20 | $60,000 | $70,232 | $130,232 |
| 30 | $90,000 | $214,993 | $304,993 |

## Common mistakes
- **Leaving the money as cash.** Money moved into an IRA often sits uninvested until you buy a fund. Log in, check your holdings and make sure the balance is in the fund you chose.
- **Putting in more than you earned.** Your contribution can't be more than your pay from work for the year, or the yearly limit. Extra amounts face a 6% tax each year until you fix them.
- **Skipping the 401(k) match for an IRA.** An IRA has more fund choices, but it has no match. If your job matches, get every matched dollar first.

## Questions people ask
### Can I have an IRA and a 401(k) at the same time?
Yes. The limits are separate. If you or your spouse has a workplace plan, your traditional IRA deduction may be smaller at higher incomes, so check the IRS rules.

### Can I open an IRA without a job?
You need pay from work, such as wages or self-employment income. If you are married and file jointly, a spouse with little or no income can still contribute based on the other spouse's pay.

### Is an IRA the same as a savings account?
No. A savings account holds cash at a bank. An IRA holds investments, and its value goes up and down with the markets.

### How much money do I need to open an IRA?
Many online brokerages have no minimum to open one. Some funds have a minimum first purchase, so check before you choose.

## Do this today
Decide whether you need an IRA: if your job has no 401(k), or you already get your full match, open one at a low-cost online brokerage. Set a monthly transfer, even $50, and choose one broad fund for it to buy.

## Sources
- [IRS: Traditional and Roth IRAs](https://www.irs.gov/retirement-plans/traditional-and-roth-iras)
- [IRS: Retirement topics, IRA contribution limits](https://www.irs.gov/retirement-plans/plan-participant-employee/retirement-topics-ira-contribution-limits)
- [IRS: Roth comparison chart](https://www.irs.gov/retirement-plans/roth-comparison-chart)
- [IRS: Publication 590-A, contributions to IRAs](https://www.irs.gov/publications/p590a)
- [IRS: Yearly 401(k) and IRA limit announcement](https://www.irs.gov/newsroom/401k-limit-increases-to-24500-for-2026-ira-limit-increases-to-7500)

_General education, not personalized financial, tax or legal advice. Figures are examples. Check current rates and limits before you act._