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IRA
The Traditional IRA |
Old traditional-style IRAs,
either deductible or non-deductible, are still available for retirement plans. With the
Taxpayer Relief Act of 1997, Traditional IRAs have been expanded to include early
withdrawals (penalty-free) for higher education expenses or first-time home purchases
($10,000 max) -- the money is still treated as ordinary income for tax purposes however.
Income caps for tax-deductible contributions are also scheduled to increase over the next
eight years, an attractive tax break for Traditional IRA users.
Let's take a look at the features that comprise a Traditional IRA.
Contributions
Anyone under age 70 1/2 who earns employment income or is married to someone who does can
contribute to a Traditional IRA. The annual limit on a contribution is $2,000 or 100%
earned income, whichever is less. Contributions can be made as lump-sum payments or
as periodic payments throughout the year (such as dollar-cost averaging).
As long as you have earned income, there is no minimum age for contributing to a
Traditional IRA. So if your 12-year son has compensation from mowing lawns or a paper
route, for example, he qualifies for this rule. Think how much your child's IRA would be
worth by retirement if he started contributing this early. One $2,000 investment would
grow to more than $300,000 by age 65 assuming a 10% annual return, and to more than
$800,000 using a 12% return.
1. Deductible. The most attractive feature of an IRA is the ability to
deduct a contribution from your taxable income. A $2,000 contribution for someone in
the 28% tax bracket will net a tax savings of $560.
If you're not covered by a retirement plan at work, your contributions
will be fully tax-deductible whether you're single or married filing jointly.
If you are covered by a retirement plan at work, contributions may
be tax-deductible depending on your modified adjusted gross income (AGI) and filing
status. Use the following phase-out schedule to determine how much you can deduct:
| |
Full |
Partial |
None |
Single |
$31,000 |
$31,000-$41,000 |
$41,000 |
Married |
$51,000 |
$51,000-$61,000 |
$61,000 |
*Phase-out amounts will
increase over the next eight years. For example, in 2000, single limits will be
$32,000-$42,000 and joint returns will be $52,000-62,000.
2. Non-Deductible. If
you're unable to make tax-deductible contributions because of income or pension status,
you still have the choice of making non-deductible contributions. These contributions will
allow your money to continue benefiting from tax-deferred growth -- the most important
feature of an IRA.
Non-deductible contributions do have their limitations:
- Earnings are still taxed
when withdrawn.
You must keep track of your
total non-deductible contributions over the years by filing a Form 8606 with your taxes.
This specifies what portion of your IRA you've already paid taxes on. It's an accounting
headache for most people and if you forget to file, your penalized.
The Roth IRA may be a better
choice for someone making non-deductible contributions.
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