Unlike other retirement products, anyone can have one or more IRAs in addition to any other type of retirement account. The main function of an IRA is to encourage you as an investor to save for retirement by using tax incentives.

IRAs can be funded only with cash or cash equivalents. Virtually, any financial institution can offer IRAs as an investment option, and there are low-risk IRAs with stated interest rates such as long-term certificates of deposit, as well as IRAs that invest in securities, such as mutual funds, with a higher level of risk.

As you are probably aware, there are two main types of IRAs, the traditional IRA and the Roth IRA, but there are also a few less widely known types that we will mention here. To be able to contribute to an IRA you must have taxable income for the year you make the contribution.

The Traditional IRA

One of the characteristics that sets IRAs apart is that the annual contribution to the account is the same for everyone no matter the income level. The government sets a limit on the maximum amount of money that you can contribute to your IRA annually. Since 2008 the maximum annual contribution has been of $5,000. Participants over 50 may also make an additional contribution of $1,000 as a catch-up or extra contribution, up to a total of $6,000.

Contributions may or may not be tax deductible, depending on your income and employer retirement plans. Contributions are tax-deductible if you don’t have any employer retirement plans available and your adjusted gross income (AGI) is less than $65,000 if single, or $176,000 for couples filing jointly.

If you are not eligible to make tax-deductible contributions, you may still make after-tax contributions, regardless of income. Contributions after age 701/2 are no longer allowed.

Distributions are taxable as ordinary income, although after-tax contributions are not taxed when distributed.

Distributions prior to age 591/2 are subject to a 10% penalty tax. Mandatory distributions begin before April 1st of the following year in which you turn 701/2

If you contribute to a Roth IRA, your contributions are made with after-tax earned income and are subject to the same limits as with the traditional IRA.

To be eligible for a Roth contribution your AGI must be less than $120,000 if single and less than $176,000 if a couple filing jointly.

Inside your Roth retirement account contributions and earnings grow tax-free. Distributions are tax-free as long as five years have elapsed since the initial contribution and you are of age 591/2, or if the distribution is due to death or disability or first home purchase (limited to $10,000).

The Simplified Employee Pension (SEP) IRA

This is a type of group retirement plan, in which the employer establishes a SEP IRA plan and makes contributions to a traditional IRA inside the plan. Contributions are made with pre-tax dollars and distributions are taxed as ordinary income. These plans are popular with the self-employed since they allow for higher contribution limits than the regular IRS.

The Savings Incentive Match Plan (SIMPLE) IRA

This plan is similar to the SEP IRA, with the difference that the employee is allowed to make limited contributions in addition to those made by the employer; it has lower contribution limits and thus less costly administration.

The Self-Directed IRA

This type of IRA allows you as an account holder to make investments yourself on behalf of your retirement plan.

Rollovers, transfers and conversions between IRAs and other retirement accounts are allowed. As an IRA owner you can perform an indirect rollover to another IRA as a means to temporarily borrow the money for a maximum of 60 days once every twelve month. The money must be placed in an IRA account within 60 days so the transaction will not be deemed as an early retirement.

You may want to opt for a rollover to avoid tax liability at the time you are eligible to receive benefits from a qualified plan, or just to keep your assets growing without current taxability, or to have more control over your assets by transferring them from an employer sponsored plan to your own IRA.

As of 2010 you are allowed to convert some or all your funds from your Traditional IRA to a Roth IRA and pay the taxes on your investments now (over a two-year period) rather than in the future at possibly higher tax rates. Prior to 2010 conversions were restricted to an AGI of less than $100,000 for singles. When converting to a Roth you are basically changing the tax treatment in which your retirement savings are placed. The most important thing is to make sure that the conversion will actually save you money over the long-run.

As with any investment tool, you may want professional advice to choose the best retirement plan for your own financial situation and personal needs.