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Individual Retirement Accounts (IRA)

Individual Retirement Accounts (IRA)

February 14, 2023

Since we covered some of the investments and investment practices, I thought it was an excellent time to discuss two of the accounts in which these investments can be utilized. Those accounts are the Traditional IRA and the Roth IRA.

IRA stands for an individual retirement account and both of these accounts offer tax deferral. There are a few other rules they have in common, as well. In both accounts, distributions prior to the age of 59 1/2 have a 10% tax penalty unless they qualify for an exemption. Here's a full list.

Now for a little bit of a breakdown of each type of account:

  • Traditional IRA
    • Tax deductible contributions, up to a certain dollar amount. After that, contributions are not tax deductible.
    • Required minimum distributions starting at age 73
    • Money withdrawn is taxable as ordinary income
    • Contributions must stop at 73
    • A catch-up contribution of $1,000 if you're 50 or older
  • Roth IRA
    • Contributions are not tax deductible
    • A Roth IRA is not available to people making a certain level of income
    • No required minimum distributions
    • Money withdrawn is not taxable
    • Can contribute as long as you have earned income
    • A catch-up contribution of $1,000 if you're 50 or older

For the Traditional IRA, the phase-out for the contribution tax deduction starts at $73,000 and ends at $83,000. Unavailable if you make more than $83,000 as a single filer. The phase-out for married filing jointly starts at $116,000 and ends at $136,000. Unavailable if you make more than $136,000. 

For the Roth IRA, it is unavailable to individuals making more than $153,000 and, if you're married (MFJ), making more than $228,000.

Every year, the contribution and income limits are reviewed and revised, so the numbers above are for 2023.

There is a way, however, for high-income earners to take advantage of a Roth IRA. It's called the back door contribution. The person makes a contribution to their Traditional IRA (no tax deduction) and then does an asset transfer from their Traditional IRA to their Roth IRA.

Another cool piece of information - you are allowed to make a prior year contribution as long as it's before April 18th. You have to have opened the account in the prior year though.

One final rule regarding the Roth IRA. You have to have the IRA open for at least five years before you can withdraw the EARNINGS in the account tax-free. If you withdraw in excess of what you've contributed prior to that fifth year, you incur a penalty.

That's the individual retirement account. Stay tuned for next week as we explore the Simple IRA and the SEP IRA.

All the best!