How safe is your IRA?

The steady path to a dream retirement
The steady path to a dream retirement

IRAs are a powerful tool for retirement savers to get lucrative tax breaks to help them reach their long-term financial goals.

When it comes to safety and security, IRAs are as safe as you make them, and although some regulatory protections safeguard your retirement accounts, it's up to you to invest your IRA assets prudently. By using a smart strategy for your investing, you can ensure that your IRA will be as safe as possible while still achieving its underlying purpose.

How regulators protect your IRA

IRAs get the same regulatory protection that applies to the investment vehicle you use to open your retirement account. For instance, if you invest your IRA in a bank certificate of deposit or savings account, then you'll receive interest in the same way a regular banking customer would, and your IRA will have the full protection of the Federal Deposit Insurance Corporation's $250,000 deposit insurance.

For those who use brokerage accounts to invest, the Securities Investor Protection Corporation offers protection of up to $500,000 for securities and cash, including a $250,000 cash limit. IRAs get the same protection as other brokerage accounts. But it's important to understand that while FDIC insurance actually protects your principal from risk of loss, SIPC insurance only protects you against problems with the brokerage company you use. When a broker gets into financial trouble and has to liquidate, SIPC makes sure the assets in each investor's account are present and accounted for. If cash or securities are missing, then the SIPC makes investors whole, up to the dollar limit protected.

What the SIPC doesn't do is to prevent you from suffering market losses. If you buy a stock and its value goes to zero, don't look to the SIPC to bail you out, because it won't.

Managing risk with your IRA investing

To keep your IRA safe, you'll have to take a smart approach to your investing decisions. There are several things you can do to try to balance the returns that your IRA investment portfolio can produce against the risks that you face anytime you invest.

First, diversifying your portfolio across several different types of investments can help you avoid catastrophic losses if one of your holdings suffers a setback. Diversification can take many different forms, such as holding many different broad asset classes including stocks, bonds, real estate, and alternative investments. It can also mean selecting several different options within a particular asset class, such as buying stocks in various sectors to offer more broad-based exposure.

Second, be aware of your time horizon. If you're already in retirement, then you'll generally want to be somewhat more conservative in your investing philosophy, because you're in a less favorable position to endure market downturns that could hurt the value of your portfolio.

By contrast, if you have decades to go before you need to tap your retirement assets, then investing your IRA in more aggressive investments can produce the best returns over the long run.

Finally, make sure you acknowledge some of the risks that many investors neglect. Being conservative with your retirement account can minimize the risk of market losses, but being too conservative comes with the attendant risk that inflation will erode the purchasing power of your retirement nest egg and keep you from being financially secure when you retire.

Similarly, selecting investments that come with higher management fees creates the risk that even if your return on investment is good, the net value of your nest egg at retirement could still be insufficient due to the thousands of dollars in inflated fees that your financial institution took out of your IRA over the course of your career.

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IRAs are extremely valuable for retirement investors, and you can do your part to make them as safe as possible. Although you can't eliminate IRA risk, you can manage it effectively and still reach the financial goals you set for yourself.

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