How to Build a Socially Responsible IRA Portfolio

IRAs are extraordinarily flexible retirement accounts that you put to use to invest in a wide variety of financial products — with generous tax advantages and a level of freedom that employer-backed retirement plans like a 401(k) or 403(b) simply cannot offer.

Anyone can invest in an IRA portfolio, regardless of their age, employment status, their income, or whether they already have an employer-based retirement plan.

If you have been considering how you can best plan for a comfortable retirement, an IRA is going to be an essential part of your financial strategy. As you decide how to move forward, you will, of course, want to assess the risk of a portfolio as you want to get the best possible returns.

Enjoying a comfortable retirement is about more than maximizing your capital gains, however — nearly 50 percent of Millennials make it very clear that socially responsible investment strategies are a top priority for them. That’s not only because they feel a responsibility to society and the planet, but also for selfish reasons.

Making environmentally-conscious investment choices now can, after all, help work toward a world that isn’t dangerously volatile by the time you reach the end of your working life.

How do you build a socially responsible IRA portfolio? Let’s have a look at your options!

Why Should You Invest in an IRA?

 An IRA — an acronym that stands for “Individual Retirement Account” — is a category of accounts that offers strong advantages for people who are planning to put savings toward their retirement in a tax-advantageous manner. An IRA is not meant to be a stand-alone financial plan for retirement, but rather one of many ways to plan for a financially healthy life after your working days are over.

A variety of different types of IRAs are open to you, and although each has its own set of benefits and disadvantages, all offer strong tax advantages. Here is a very quick look:

• Traditional IRAs. Contributions made into traditional IRAs are, in the majority of cases, tax-deductible. In 2021, the upper limit for tax-deductible contributions was set at a modified adjusted gross income of $66,000 for single people, and $105,000 for married couples who are filing jointly. Even if you earn more, and the contributions you make to your IRA are not tax-deductible, the tax can be deferred until the point after retirement at which you withdraw the funds. This is advantageous because you are likely to find yourself in a lower tax bracket once you retire.
• Roth IRA. The contributions you pay into this type of IRA are made with income that has already been taxed. As a result, the returns you make on your IRA investment portfolio will not be taxable — potentially allowing you to grow a very substantial nest egg for after retirement without then needing to pay additional taxes on those funds.
• Rollover IRA. These individual retirement accounts are funded with funds that were rolled over from your employer-sponsored retirement plan, such as a 401(k) or 403(b).
• SIMPLE IRA. In this case, SIMPLE stands for “savings incentive match plan for employees”, and although this type of IRA works similarly to a traditional IRA, it was specifically designed for either small business owners or self-employed professionals, such as freelancers and solopreneurs.

Very much unlike a simple savings account or a traditional investment portfolio, IRAs offer tax advantages because they have the aim of supporting responsible citizens who are saving for retirement — and this also means that, if you do have the need to withdraw funds from an IRA before retirement age (in this case defined as age 59 and a half, even if you take early retirement), there will be considerable penalties.

That can ultimately be seen as a positive measure since you are essentially forced to save for later when you are truly going to need those funds. Research indicates that most retired folks need around 85 percent of their pre-retirement income to be able to live the life they want, so prioritizing that time in your future is essential.

Although individual retirement accounts do come with a long set of strings, within these confines, you have a lot of freedom to invest as you want to. An IRA investment portfolio may include mutual funds, stocks, bonds, exchange-traded funds, and other financial products.

No matter who you are — and also, an important point to make, regardless of your age, because it’s never too early or too late to start saving for retirement — it is clear why investing in an IRA is an excellent choice. However, modern consumers and investors, who are increasingly socially and environmentally conscious, will not only want to benefit themselves as they invest in an IRA.

They will want a socially responsible IRA with investments that are in line with their own values. If you are interested in ESG (environmental, social, governance) investments, you will want to learn how to invest a socially responsible portfolio.

See Related: Reasons to Start Social Impact Investing

What Is Socially Responsible Investment? 

On the face of it, the question of what socially responsible investment means probably seems simple to you — if you are currently considering how to build a socially responsible IRA portfolio, you have likely considered what types of values you would like to support already.

You may have a general wish to invest only in companies that embrace the wider umbrella of ESG values as a whole, or you may have an issue that is especially important to you, such as environmentally responsible investments or ethical labor practices.

The good news is that, as the corporate world places an ever-higher emphasis on corporate social responsibility, plenty of ESG investment managers and mutual funds are now available. In these cases, low-ESG investments such as tobacco companies or those producing fossil fuels can automatically be excluded from your portfolio.

The remaining candidates are vetted on the basis of a variety of potential ESG standards that measure performance in the areas important to socially responsible investors.

There is a challenge, however, particularly if you are completely new to investing and your socially responsible IRA portfolio is your very first step into this world.

You also need to consider what risk profile you are comfortable with, and some level of diversification is essential if your IRA is going to do what you need it to do — grow your retirement funds so that they are available when you need them.

See Related: Best Socially Responsible Financial Advisors

How Do You Get Started with a Socially Responsible IRA Portfolio?

While you can be extremely involved in managing your own socially responsible IRA portfolio, it is good to know that you do not need to learn about the ins and outs of the financial markets in great depth in order to achieve what you aim to — putting your money to work in a way that also betters the environment, the people in it, or both.

You may simply prefer it if a professional investment manager manages your socially responsible IRA portfolio. In general, to build a successful but also socially responsible IRA portfolio, you will want to invest in a variety of financial products — socially responsible stock mutual funds, socially responsible individual stocks, socially responsible exchange-traded funds (or ETFs), and of course, socially responsible index funds.

Index funds, which have the advantage of low operating expenses, a low portfolio turnover, and offer diverse market exposure, are often considered ideal for IRAs due to all these factors and their passive investment strategy.

Before deciding which mutual funds and EFTs to invest in, it is important to do your research — but thanks to the fact that socially responsible investment is booming in the current market, that research can rely on secondary sources.

The Forum for Sustainable and Responsible Investment, for instance, maintains up-to-date lists of socially responsible mutual funds and EFTs which it makes available to investors who are investigating socially responsible investment examples. This handy resource allows you to review your options before you make a decision.

You do, as an investor hoping to build a socially responsible IRA portfolio, have to be aware that mutual funds and exchange-traded funds that adhere to ESG principles have the tendency to come with higher expenses in terms of portfolio management.

The reason for this is fairly simple — painstaking data analysis efforts are required to determine which companies meet your stringent corporate social responsibility requirements as an investor. That carries significant costs, and those expenses are passed onto you.

To build a socially responsible IRA portfolio that supports your values, you can also choose to work with a brokerage company.

Investment companies such as Fidelity, Schwab, and Aspiration can make it very easy to begin building a socially responsible IRA portfolio, even if you know absolutely nothing about investing. This is, as such, a very viable option for rookie investors who have funds to dedicate to the associated costs.

Those who want to invest in their IRA for a more comfortable retirement can also, however, make use of another very popular way to look at investment — that is, you could consider opening an IRA with the help of a robo-advisor and letting the chosen platform take care of fund selection on your behalf.

What are robo-advisors, you ask? These digital platforms, which are algorithm-based and include very little human interaction, are modern financial planning services.

Because a “machine” does almost all of the worlds, robo-advisors for IRA investment are extremely fast, thorough, and easy to use. Using a robo-advisor to build your socially responsible IRA portfolio offers many advantages. Among them is the extreme ease with which you can set up an account, optimized indexing approaches that diversify easily, cutting-edge security features, and — a low cost!

Some financial experts warn that robo-advisors are not yet able to optimally scrutinize to which extent the investment options you may be looking at have truly embraced ESG values as a way of doing business, rather than simply having jumped on the current bandwagon with ESG disclosures and frameworks in order to attract investors.

Given the current demand for socially responsible investment, however, this is likely to change in the future. In the present, if you do not want to shell out the extra funds that would be required for an individual human portfolio manager, ESG-friendly robo-advisors can still prove to be a valuable option to have at your disposal as someone who is committed to supporting companies who share your values.

Not all socially responsible investment funds look at the biggest of pictures, either — and many people who are hoping to make their IRA work for them while also helping to create a world with greater corporate social responsibility choose to do so by selecting the theme that is most important to them as they opt for an automated socially responsible IRA portfolio.

These themes focus on specific aspects of ESG values — so on the area of environmental, social, or governance values in particular. These automated portfolios are easy to manage but to truly make sure that they achieve their aim, you do have to be actively involved.

The bottom line is that it is not just very much possible to build a socially responsible IRA portfolio in this day and age, but as a prospective investor, you also have multiple different paths to making it happen — in accordance with the values that are most important to you, your personal level of comfort with taking financial risks, your age (and thus the time period over which your investment strategy can unfold).

Also, whether you want your portfolio managed by a human investment professional. While many financial experts do warn that ESG-based investors who want to build a socially responsible IRA portfolio have to compromise on their values in order to make the capital gains they are aiming for, and this remains true to an extent, the truth is that this is changing quickly as well.

ESG investments are fast becoming not only more socially and environmentally sustainable, but also more financially profitable.

See Related: Best Investments for Young Adults

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