Individual retirement accounts, or IRAs, are among the best way to save for retirement. In the case of regular IRAs, contributions for most people are tax deductible; in the case of Roth IRAs, withdrawals are completely tax free. In both cases, the accounts can grow from year to year without being taxed; regular savings accounts, of course, are taxed on interest, dividend, and capital gains earnings every year.
However, because IRA accounts are tax advantaged, contributions are subject to restrictions by the Internal Revenue Service. The rules can be complex. You may be asking yourself, Can I contribute to an IRA? In most cases, the answer is Yes.
Again, a distinction is made between regular IRAs and Roth IRAs. As mentioned above, for most people (those earning less than an established income limit), contributions to regular IRAs are tax deductible; however, eventual withdrawals are taxable as regular income. The tax benefit therefore comes at the front end. Contributions to Roth accounts, however, are never deductible; however, as mentioned above, eventual withdrawals are tax free. The tax benefit comes at the back end.
For most people, a Roth IRA is more advantageous. If you contribute the maximum annual amount (in 2012, $5,000, and for those over the age of fifty, $6,000) for thirty or forty years, the account compounding year in and year out, you can build a substantial nest egg, even in the mid-six-figures depending on how wisely you’ve invested the money over the years. Because all of your retirement income from this substantial nest egg will then be tax free, the U.S. Treasury loses significant tax revenue. For this reason, Roth IRAs were designed to benefit the middle class and lower class and not the wealthy, who are not as much in need of the tax break.
Therefore, there are income limits that specify whether you can contribute to a Roth IRA or not. In 2012, single filers could make a full contribution to a Roth IRA ($5,000, or $6,000 if aged fifty or over) if their modified adjusted gross income (MAGI) was less than $110,000; if the MAGI is between $110,000 and $125,000, single filers can make a partial contribution on a sliding scale, and if the MAGI is over $125,000, single filers can’t contribute. For married couples filing jointly, both spouses are able to contribute fully to their respective Roth IRAs if their MAGI is $173,000 or less, partially on a sliding scale if their MAGI is between $173,000 and $183,000, and not at all if their MAGI exceeds $183,000.
There’s one other restriction: to contribute to a Roth IRA, you need earned income, generally defined as wages, salary, tips, bonuses, commissions, earnings from self-employment, taxable alimony, and nontaxable combat pay for military personnel. Income from rental property, interest, dividends, capital gains, and the like do not count. Your earned income for the year must be at least the amount of your contribution; if you only earned $6,000 and are fifty years old, you can make the full contribution of $6,000.
Can you contribute to a regular IRA? Contributing to a regular IRA is subject to the same earned income clause as above: you need at least as much earned income as the amount of your contribution. And annual contributions are limited, as with Roth IRAs, to $5,000, or $6,000 for those over fifty years of age (as of 2012). There are no income restrictions on contributions to regular IRAs.
So, to answer the question, Can I contribute to an IRA?, the answer is Yes — at least to a regular IRA, provided you have at least a minimal amount of earned income.
IRA Calculator will help you determine:
IRA calculator helps you decide whether a Traditional or Roth IRA is best suited for your needs.
How much you need to withdraw each month once you retire to live comfortably
How much you need to contribute each month to maximize employer contribution for monthly retirement withdrawal goal
How you can forecast for your contributions’ affect on your retirement savings can be done through our online 401-K calculator.