Fundamentals of Funding
With both income tax return filing and Individual Retirement Account funding deadlines just around the corner, it is a good time to be reminded of the necessity of saving for retirement. Learn the difference between traditional and Roth IRAs.
The traditional IRA is still attractive to many people because contributions may be tax-deductible. If you are covered by a retirement plan, the deductibility of your contribution will depend on your modified adjusted gross income for the year. If you are single, your contribution is fully deductible if you earned less than $50,000 for the tax year. If you are married and filing a joint tax return, your contribution is fully deductible if your modified adjusted gross income was less than $70,000.
Earnings in your traditional IRA will accumulate tax-deferred, but both the earnings and the contribution are taxable when withdrawn. Withdrawals are subject to ordinary income tax, but may also be subject to a 10 percent penalty if withdrawn before age 59 1/2, unless the distribution is to purchase a first home, or for certain higher-education expenses. You must start taking minimum distributions from a traditional IRA at age 70.
The main advantage of the Roth IRA is that “qualified distributions” or certain nonqualified distributions are not included in income. Single taxpayers whose modified adjusted gross income is less than $95,000 may make a full Roth IRA contribution, and the contribution amount phases out between $95,000 and $110,000. Joint filers whose modified adjusted gross income is less than $150,000 may make a full Roth IRA contribution.
Many people choose the Roth IRA because they do not have to take required distributions starting at age 70. Moreover, if you die, a qualified distribution made to your Roth IRA beneficiary will not be taxed. Taxpayers who do not need the tax deduction of the traditional IRA also choose the Roth because it allows you to withdraw your contributions at any time, penalty and tax-free.
Income May Play A Factor
Many taxpayers who are covered by a retirement plan and exceed the income limitations for making a deductible traditional IRA contribution opt to contribute to a Roth IRA, figuring that if they cannot get a tax deduction for the contribution, they’ll at least get the significant benefit of tax-free distributions at retirement.