Individual retirement accounts: something
While there have been some changes in
how much you can contribute to individual retirement accounts (with
more to come in the next few years), the basic advantage of these
accounts remains unchanged. IRAs can help you avoid some taxes and
get a jump-start on retirement too.
The IRA was originally developed in 1974 for
people not covered by a company pension plan. "The individual retirement
account legislation allowed the average person a chance to put money
in to a tax-advantaged account," says Bruce Grace, a Chartered Financial
Analyst and Assistant Professor of Finance at Morehead State University.
This is a considerable benefit for individuals,
regardless of whether they have company-established pension plans.
"The Roth IRA may be even a better deal for those who think they will
be in a higher tax bracket at retirement," Grace added.
Since the original enactment of IRA legislation,
several types of IRAs have been developed with a variety of characteristics
that can meet your investment and retirement needs.
Contributions may be fully deductible, partially
deductible or not deductible, depending upon your income and other
- The maximum contribution for the 2003 tax
year is $3,000. People 50 or older can make an additional contribution
of $500 for a total of $3,500.
- Full allowable contribution generally is
allowed if the account holder (or spouse) is not covered at any
time during the tax year by a retirement plan, including a 401(k)
account, at work.
- If you are a single or head-of-household
taxpayer with annual adjusted gross income (AGI) between $40,000
and $50,000 and are eligible for a company retirement plan, your
deduction will be reduced. Deductions also are limited for married
couples filing jointly or qualifying widows or widowers who earn
between $60,000 to $70,000 per year.
- Even if you do not have
a retirement plan at work, your deduction also may be limited
if your spouse, with whom you file a joint return, does have a
company pension plan. In this case, your deduction
will be reduced if your joint income is between $150,000 and $160,000.
No deduction is allowed if your AGI exceeds $160,000.
- If you have a non-working spouse, he or she
can contribute up to $3,000 ($3,500 if 50 or older) to an IRA
also as long as the two of you together make at least as much
in annual income as you contribute.
- Profits and income from investments are not
taxed until you retire and begin withdrawing funds.
- You can withdraw funds, without penalty,
when you reach age 59½. If you take out money before then, you
usually will face a 10 percent penalty, plus taxes on the withdrawn
- Under certain circumstances, you can take
distributions before age 59½.
- In the year that you will turn 70½ you can
no longer make contributions to your account. In fact, at that
age you must
start withdrawing the account money or face additional penalties.
- For 2003 returns, you can contribute up to
$3,000 to a Roth IRA if you are single and make $95,000 or less
or are married earning less than $150,000 in adjusted gross income.
- You can still contribution but not the maximum
amount if you're single and make up to $110,000 or married and
earn up to $160,000. Once you're over these limits, you can't
put any money into a Roth IRA.
- There is no tax deduction per se for Roth
IRAs. Contributions are made with money that has already been
taxed, so there is no immediate tax break. But when Roth money
is taken out, it is a tax-free distribution.
- This type of IRA is ideal for individuals
in a lower tax
bracket now, but anticipate being in a higher tax bracket
- You may make contributions at any age, even
after you reach 70½.
- You must have your Roth account for at least
five years before you can take a penalty free distribution of
earnings. Distributions of earnings without penalty can be taken
after age 59½. If you are a first-time home buyer or become disabled,
you can take distributions earlier.
- If you exceed the income limits you can neither
contribute to nor roll over other IRA money into a Roth account.
If you opened a Roth while you were under the income limits but
then later earn more, your Roth account still will earn money
tax-free that you can take out later without tax implications,
but no new contributions are allowed.
- These plans are now called Coverdell
Education Savings Accounts in honor of the late U.S. Sen.
Paul Coverdell. Individuals can make annual contributions of up
to $2,000 per child into an account that's exclusively for helping
to pay higher education costs.
- The money contributed to a Coverdell account
doesn't count against the $3,000 ($3,500 if 50 and older) annual
total individuals may contribute to their combined persoanl individual
IRAs. The earnings and withdrawals from a Coverdell account are
tax-free, but you can't deduct the contributions from your income
tax because the account is for the benefit of the child, not the
- If your child received a Coverdell ESA distribution,
you now can also claim Hope
Scholarship or Lifetime Learning credits. Just make sure you
don't use Coverdell money to pay for the same expenses you use
to claim an education credit.
- The beneficiary of the education IRA must
withdraw the funds by age 30 and pay taxes and penalties on it.
However, the account can be transferred to a sibling or the beneficiary's
SEP-IRA (Simplified Employee
- A company-sponsored IRA, it can be opened
by the smallest of businesses, the sole proprietor.
- Under the SEP-IRA plan, an employer can contribute
to an employee's existing IRA. The penalties for early withdrawal
remain the same as with the traditional IRA. Contributions are
- If you are a small business owner, IRS
Publication 590, Individual Retirement Arrangements, explains
the contribution limits for these plans. Self-employed taxpayers
have a different standard for contribution limits than employees
of a firm that offers a SEP-IRA plan.
- SEP-IRAs are flexible for employers. An employer
does not have to contribute every year. The contributions are
SIMPLE IRA (Savings Incentive
- Like the SEP-IRA, the SIMPLE IRA is company-sponsored.
- As a small business owner, for 2003 you can
match each employee's pay up to 3 percent or $8,000, whichever
- SIMPLE IRA contributions are fully deductible.
In addition to these IRA accounts, individuals
and small businesses have a number of options to sock away money
toward future retirement educational needs.
Small businesses, which cannot afford to sponsor
a 401(k) or 403(b), can also offer employees basic retirement plans
established for the benefit of their employees. Sole proprietors
also now can open individual
Examine the options and pick the one that maximizes
your long-range savings goal. And don't wait. Take advantage of
compound earnings and start socking away cash now for tomorrow.
-- Updated: Oct. 21, 2003