An IRA Is Still an Excellent Investment Vehicle

There are still a few ways to get rich these days. You can win the lottery, marry into a wealthy family, bat .288 lifetime like Ryne Sandberg or faithfully contribute to an individual retirement account.

An IRA isn’t the most exciting route to riches--and it certainly isn’t the quickest--but it is among the most accessible approaches for the largest number of people.

A $2,000 annual investment, compounded year after year, will snowball into serious money as assuredly as congressional checks will bounce.

This doesn’t mean that IRAs are the best retirement choice around; they aren’t. Corporate pension programs, including fast-growing 401(k) plans, often are better deals, for two reasons: You can shelter more cash than in an IRA, and your employer might chip in money on your behalf.

IRAs aren’t even as good as they used to be. Prior to tax-law changes that took effect in 1987, virtually any worker could write off the full amount of his investment, up to $2,000 a year.

Now, full IRA deductions are allowed only for lower wage earners (income below $25,000 for singles or $40,000 for couples) or anyone not covered by a pension plan at work.

But even if you can’t get a deduction, there’s a good reason to invest in an IRA. It’s called tax deferral. Many financial advisers say the best part of the IRA equation isn’t the deduction but rather the ability to delay paying taxes on your investment gains, including dividends, until you withdraw the money years later.

A $2,000 annual IRA investment that returns 10% a year will mushroom to more than $360,000 after three decades. That excludes the impact of any write-offs along the way.

That’s a realistic compounding rate when you consider that the average growth-stock mutual fund appreciated at a 9.9% annual clip from 1962 through 1991, reports Lipper Analytical Services of Summit, N.J.

Two strange bedfellows, volatile small-company funds and conservative equity-income funds, did even better: 11% average yearly gains over the same period.

Mutual funds are good choices for long-term retirement accounts since they’re professionally managed and highly diversified. The latter attribute practically ensures that a stock or bond fund, unlike individual securities, will bounce back after market declines and participate in rallies, unlike individual securities.

In addition, mutual funds are convenient. There’s little paperwork to fill out, and nearly all fund companies will accept IRA investments of $2,000 a year, if not less.

Most 401(k) plans also offer at least one mutual fund as an investment choice, although the selection is typically limited. Still, if you’re fortunate enough to have access to a 401(k) plan at work, you should consider participating.

Compared to IRAs, 401(k)s allow you to deduct and defer taxes on a lot more money. In fact, the investment ceiling is indexed to inflation. This year, you can elect to put away as much as $8,728 in a 401(k) plan, up from $8,475 in 1991.

Your company can put in an additional amount, bringing your total yearly investment to 25% of your salary or $30,000, whichever is less.

IRAs, by contrast, have been stuck on the same $2,000 annual contribution limit ever since they were popularized in 1982, even though inflation has been 47% in the meantime.

A proposal from President Bush, if approved, could result in a higher contribution ceiling. Bush’s plan would allow investors to put up to $2,500 each ($5,000 for a couple) into a “flexible” IRA. Contributions wouldn’t be deductible, but earnings would grow tax-deferred and, if held seven years or more, would escape taxes altogether.

Bush also proposes to allow penalty-free withdrawals of up to $10,000 on regular IRAs if the money’s used to pay for health care, higher education or the purchase of a first home.

A plan advanced last year by Sens. Lloyd Bentsen (D-Tex.) and William Roth (R-Del.) would keep the same $2,000 limit, although it would restore full deductions for all IRA investors.

The Bentsen-Roth proposal would also create a separate, non-deductible IRA savings plan. The advantage here would be penalty-free withdrawals as long as the money stayed put five years. Currently, you can’t tap an IRA penalty-free unless you’re 59 1/2 or older.

Penalty-free withdrawals would likely make IRAs more appealing to people otherwise unwilling to commit to a long-term investment plan, including younger individuals.

Anyone who gets started with a retirement program at a young age enjoys an enormous advantage over late arrivers. In fact, several studies have shown that investors who begin contributing at a young age then stop can still wind up a bigger account than people who start later yet put away more money over a longer period.

The drawback of penalty-free withdrawals is they may tempt people to use IRA assets for nonessential purposes. Obviously, anyone who raids his account won’t have as much wealth built up for the real purpose: retirement.