Tax 101: Individual Retirement Accounts (IRAs)
It’s no secret that saving for retirement is a good idea. While social security may offer some financial benefits upon retirement (providing it’s even still around!), the distribution amounts are typically a fraction of the money needed to survive and more importantly, enjoy, your golden years.
For this reason, most people contribute some portion of their income to a retirement savings account. While these come in a variety of different flavors, including the popular employer-sponsored 401k and 403b plans, one of the most common is the Individual Retirement Account (IRA).
An IRA is designed to enable employees and the self-employed to save for retirement. They were first introduced in 1974 and have become a popular retirement savings vehicle for generations of investors. Most taxpayers who work are eligible to start a traditional IRA, Roth IRA or add money to an existing account.
Contributions to a traditional IRA are usually tax deductible, and distributions are generally taxable. To count towards your 2021 tax return, contributions must be made by April 15, 2022. Taxpayers can file their return claiming a traditional IRA contribution before the contribution is actually made. However, the contribution must then be made by the April due date of the return… so don’t forget!
The same combined contribution limit applies to both Roth and traditional IRAs. However, while Roth IRAs are subject to the same general rules as traditional IRAs, there are a few exceptions:
You cannot deduct contributions to a Roth IRA
If you satisfy the requirements, qualified distributions are tax-free
You can make contributions to your Roth IRA after you reach age 70 ½
You can leave amounts in your Roth IRA as long as you live
The account or annuity must be designated as a Roth IRA when it is set up
How Much Can I Contribute?
Generally, eligible taxpayers can contribute up to $6,000 to an IRA for 2021. For someone who was 50 years of age or older at the end of 2021, the limit is increased to $7,000. Qualified contributions to one or more traditional IRAs are deductible up to the contribution limit or 100 percent of the taxpayer’s compensation, whichever is less.
For 2021, if a taxpayer is covered by a workplace retirement plan, the deduction for contributions to a traditional IRA is generally reduced, possibly to zero, depending on the taxpayer’s modified adjusted gross income.
Even though contributions to Roth IRAs are not tax deductible, the maximum permitted amount of these contributions begins to phase out for taxpayers whose modified adjusted gross income is above a certain level.
Saver’s Credit
While contributions to a Roth IRA are not tax deductible, qualified distributions are tax-free. In addition, low and moderate-income taxpayers making these contributions may also qualify for the Saver’s Credit.
The Saver’s Credit, also known as the Retirement Savings Contributions Credit, is often available to IRA contributors whose adjusted gross income falls below certain levels.
Consult a Tax Professional
While the brokerage firm managing your IRA should be able to provide general information about the account and their own internal policies, state and federal laws that apply to retirement accounts are constantly changing. We know the rules, understand tax law and have the most current information about what contribution and distribution options may be available for your specific situation.
If you have questions about IRAs or would like help determining your contribution limit, please CONTACT US today. Our certified tax professionals are here to help!
