Tax 101: IRA & Roth IRA Basics

The topic of IRA's & Roth IRA's can certainly be confusing! But these investment tools are valuable in helping to set you up for the retirement that you envision. 

IRA stands for individual retirement account meaning it is owned solely by one individual for the purpose of retirement. Each year you are able to contribute up to a maximum amount depending on how much income you earn. One important advantage of an IRA is that, depending on your income, you receive an income tax deduction by contributing to an IRA.

With a Roth IRA, you will pay taxes on the amount that you’re contributing.  The big advantage of a Roth IRA is that, if you are over the age of 59.5, you can pull out your contributions and your earnings income tax free. We generally assume that taxes will be higher in the future, so this is really important benefit of the Roth IRA.  You should discuss your personal situation with a trusted professional to determine which account is right for you.

There are contribution limits for both IRA & Roth IRA's. If you’re under the age of 50, you can contribute up to $6,000 a year. If you’re over the age of 50, you can contribute up to $7,000 a year.

Watch 5 Minute Finances on this topic!

There are some additional considerations for making IRA contributions:

• Single filers earning less than $65,000 a year receive the full income tax deduction.
• Married, filing jointly with both spouses covered by a retirement plan through their employer receive an income tax deduction if the combined income is under $104,000.
• Married, filing jointly with one individual covered by a retirement plan at work receive an income tax deduction of the combined income is under $196,000.

If your income is over these limits, you may still be able to contribute to an IRA by making a non-deductible IRA contribution. You can contribute to an IRA, up to $6,000 or $7,000 a year, but you won’t receive an income tax deduction for that contribution. If there are earnings associated with that contribution, you will pay income tax on the earnings whenever you take funds out of your IRA account in the future. There's also the option of making a "back-door" Roth contribution which we discussed here

Additional considerations for Roth IRA's:

• Single filers earning up to $124,000 can contribute to a Roth IRA.
• Married, filing jointly, earning up to $196,000, can contribute to a Roth IRA.

Spousal IRA's - For couples where only one spouse is earning income, both spouses can make IRA or Roth IRA contributions under the "spousal contribution" rules as long as your earning income is greater than the total amount of contributions made.

As always, we're here to talk if this topic brings up any further questions.