One Roth IRA Mistake That’s Costing Americans Thousands
If you’re contributing to a Roth IRA, you’re already ahead of the game. Roth IRAs are a retirement saver’s dream. These accounts offer tax-free growth, and as long as you follow the rules, you’ll be able to take those gains out without a tax bill in sight. But there’s a catch: A lot of people are making a simple yet costly mistake when it comes to their Roth IRAs. And it’s all about how they’re choosing to invest.
You might think you’re playing it safe, but in reality, you could be losing out on thousands in potential growth. Let’s break down the one mistake that’s holding you back and how to fix it.
“Safe” Investments Aren’t Always Safe
Roth IRAs are built for growth. When you invest money into a Roth IRA, you’re contributing after-tax dollars, and those dollars can grow, tax-free, for decades. Sounds great, right? But if you’re filling your Roth IRA with low-growth, “safe” investments like bonds or cash, you’re essentially letting your account underperform.
Why Playing It Safe Is Actually Riskier
You might be wondering, “If I’m playing it safe, what’s the risk?” Here’s the thing—while bonds or low-risk investments might feel comforting, they generally provide slower returns. Over the long haul, that means your Roth IRA isn’t going to grow nearly as much as it could.
Sure, bonds can stabilize your portfolio, but when you’re talking about an account like a Roth IRA, you need to be thinking about growth potential. You’re locking in tax-free gains, but without aggressive investments, those gains are… well, pretty meh. The true risk is in missing out on all the wealth you could have earned.
What You Should Be Doing Instead
It’s time to flip the script and get aggressive with your Roth IRA. This means investing in stocks, stock-based ETFs, and other high-growth assets that have the potential to deliver real returns. If you’re younger or have a long time horizon before retirement, this approach can give your account the time it needs to really grow. Here are some solid options to start aggressive investing within your Roth IRA:
Individual Stocks: High-growth stocks like tech, biotech, or even emerging markets can provide massive returns over time.
ETFs and Index Funds: Not into picking individual stocks? Go for ETFs or index funds that track the market or specific sectors. Want exposure to technology? There are ETFs for that. These funds allow you to diversify your risk while still aiming for solid growth.
Small-Cap Stocks: These are companies with smaller market caps that are often overlooked but have the potential for significant growth. The risk is higher, but the reward can be worth it.
Sector-Specific Funds: If you’re interested in emerging industries, consider sector funds. Clean energy, artificial intelligence, and other high-growth sectors could offer huge returns.
Don’t Overlook the Power of Compounding
Image via Unsplash/Jo Smiley Hailey
One of the best things about a Roth IRA is the power of compound growth. That means the money you earn on your investments gets reinvested and starts earning money itself. So, the earlier you invest in high-growth assets, the bigger the snowball effect. Compound interest doesn’t work if your investments aren’t growing.
As an example, imagine if you invest in stocks that grow 8% a year, and that growth continues for 20 or 30 years. Your Roth IRA balance will increase significantly more than if you’d parked your money in something that only grows 2-3% annually.
When to Switch Things Up
You don’t have to be all aggressive, all the time. As you get closer to retirement, you can shift your portfolio to be more conservative. After all, once you’re within a decade of needing the funds, you don’t want to be too exposed to risk. But that doesn’t mean your Roth IRA should be a “safe” account forever. You can afford to take on more risk when you’re younger and reap the rewards of higher growth.
More Common Mistakes to Avoid
While being too conservative is a big mistake, here are a couple of others you’ll want to avoid:
1. Letting Your Contributions Sit Idle: Don’t just throw money into a Roth IRA and forget about it. Make sure you’re actively investing your contributions. Otherwise, that money is just sitting there, doing nothing for you.
2. Ignoring Rebalancing: Your asset allocation will shift over time. If one part of your portfolio is outperforming, you may need to rebalance to maintain your desired risk level.
3. Not Using Roth IRA Conversions: If you have traditional IRA or 401(k) funds, you can convert them to a Roth IRA. These conversions can help reduce your tax burden in retirement. Just be mindful of the taxes you’ll pay when you convert.
The Bottom Line
Roth IRAs are a retirement saver’s best friend, but only if you use them the right way. By investing aggressively and focusing on growth, you can take full advantage of the tax-free growth potential that makes a Roth IRA so valuable.