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Mutual Fund Commentary

IRA, which stands for both Individual Retirement Account and the broader classification of Individual Retirement Arrangement, is a government regulated individual retirement plan for retirement savings with tax advantage. Individual retirement arrangement was launched in 1974 following the enactment of the Employee Retirement Income Security Act (ERISA).

It is set up for the benefit of taxpayers or their beneficiaries, as this plan has lower long-term tax burden with the option for investors to withdraw money on reaching the retirement date. Simply, individuals can contribute money to IRAs, before tax deductions in most cases, and withdraw the capital with returns upon retirement. In 2013, the maximum IRA contribution was limited at $5,500 for investors below 50 years; while those above 50 could contribute $6,500.

However, an IRA plan is not investment by itself. The money stashed into the retirement savings plan is diverted to invest in stocks, bonds, mutual funds and other assets. The asset allocation is thus a crucial step as investors would not want to lose money they are storing as part of a retirement plan.

Types of IRAs

Generally, there are four types of IRAs - Traditional IRAs, Roth IRAs, SEP IRAs and SIMPLE IRAs. They are divided primarily based on tax deductions and plan contributions.

Traditional IRAs – These are tax-deferred retirement savings account. Tax is paid only at the time of withdrawing money. That is an advantage in the form that dividends, interest payments and capital gains are compounded every year without the tax burden; assuring faster growth of the plan than a taxable IRA. Anyone below 70.5 years age and with taxable income can contribute to traditional IRAs.

Roth IRAs – This retirement savings plan enables money to grow tax free as investors contribute with after-tax assets. Withdrawals are usually tax free and all transactions carry no tax burden. Money can be withdrawn here without paying any penalty after investor reaches 59.5 years. However, penalty will be levied before that age if the investor is withdrawing money for a non-qualifying reason.

SEP IRAs – SEP or Simplified Employee Pension IRAs are a kind of traditional IRA for small business proprietors or self-employed people. Any individual having freelance income, or a business with at least one employee can have a SEP IRA account. The tax-deductible contributions go into traditional IRA that is under the employee’s name. Here, the employer contributes the money. Tax is deducted at the time of withdrawing money.

SIMPLE IRAs – SIMPLE or Savings Incentive Match Plan for Employees IRAs are also for small businesses or self-employed people. Investments grow tax deferred until withdrawals are made. Here, employees too can invest money unlike SEP IRAs. Employers’ contribution either matches that of employee’s contribution but up to 3% of salary, or a flat 2% of pay is contributed. This is regardless of employees are making contributions or not.

Mutual Funds & IRAs

Mutual Funds and IRAs are different financial instruments. However, their connection lies in the fact that money contributed to an IRA can be directed toward mutual funds. This gives a decent advantage for investors looking at tax advantage while investing in mutual funds. As mentioned earlier, IRAs are generally for tax-advantages and are regulated by governments.

However, it is not always easy for individual investors to decide on which mutual funds to buy. Investors may be deceived to believe how a fund features in the top 100 list. Technical jargons used for marketing strategies can often mislead investors – making them believe how wonderfully the fund has performed. The truth of a particular fund may be something else, which many investors may find daunting to unearth.

AIP: An Alternative Option for Mutual Fund Investors

Many fund families make provision for the automatic investment program. Firms, including The Charles Schwab Corporation (SCHW - Analyst Report) or Janus Capital Group, Inc. (JNS - Analyst Report), have this facility. Under the program, investors need to contribute money every month.

In fact, USAA First Start Growth (UFSGX - MF report) lets investors open an account without investing a single penny if they chose the AIP option. However, the fund requires investors to shell out $50 a month under the AIP. This fund currently carries a Zacks Mutual Fund Rank #1 (Strong Buy). The fund has returned 14.2% over the last 3 years. Moreover, not carrying either a front or deferred sales load makes this fund more attractive.

Investors looking for such option may also invest in BlackRock Basic Value R (MRBVX - MF report). This is a “feeder” fund that invests 100% of its assets in Master Basic Value LLC. Master LLC invests in undervalued equities and primarily in domestic common stocks. Companies having market capital over $5 billion are selected for investments.

The minimum initial investment for the fund is $100. Also, the fund offers minimum initial AIP of $100 and then min subsequent investment, AIP, of $50. MRBVX has an annual expense ratio of 1.12%, significantly lower than the category average of 1.13%. Also, the fund carries no sales load.

The fund currently carries a Zacks Mutual Fund Rank #1 (Strong Buy) and has returned 13.5% over the last 5 years.

So, these funds can again become very viable option for investors looking to diversify their capital among many funds. These funds too are best for long-term returns. So, investors may target a particular maturity date, may be at par with their possible retirement year.

About Zacks Mutual Fund Rank

By applying the Zacks Rank to mutual funds, investors can find funds that not only outpaced the market in the past but are also expected to outperform going forward. Learn more about the Zacks Mutual Fund Rank in our Mutual Fund Center.

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