To IRA or Not To IRA

That is the question. But it is a multi-part question. The first question is whether or not to make a contribution to an IRA. If you are under age 50, you can make a contribution of up to $5,000. If you are over age 50, you can make an additional $1,000 on top of that.  Do you have the cash to contribute? These days, that is not an easy question for many people. If you have extra cash, then you should seriously consider making the contribution to your retirement. Remember, it does not have to be the entire $5,000. It can be any amount up to $5,000.

Why Contribute to a Retirement Account?

There are several very good reasons to make contributions to your retirement account:

1) You are going to want some fund to draw upon when you retire.
2) If social security is around, it will not provide an adequate standard of living when you stop working.
3) All funds in a retirement account grow tax deferred - that is, you don't pay tax on the earnings until you take the money out.
4) It saves on current income tax every year. The money you contribute would otherwise have been in an investment account earning interest or dividends which would be taxable now.
5) If you are eligible to contribute to a deductible IRA, it saves you on your tax return now.

What Kind of IRA do I Contribute to?

There are two basic kinds of IRA accounts: traditional and Roth.  The traditional IRA can be divided into the deductible and nondeductible varieties.  Anyone with earned income can contribute to a traditional IRA. Earned income is money you earn from working. It does not include investment income or rental income. If you are going to contribute $5,000 to an IRA, you need to have earned at least $5,000.  If you are filing a joint tax return, the income you make can be used to make a contribution for your spouse.  In other words, if your spouse does not work and you make at least $10,000, then you can contribute $5,000 to your IRA and $5,000 to your spouse's IRA.  Not everyone can contribute to a Roth IRA. If your income is above a certain level, then you are disqualified from making a Roth IRA contribution.

Can I Deduct My IRA Contribution?

This simply refers to whether or not you can take a current deduction on your tax return for making the contribution to your traditional IRA. Whether or not you can deduct the contribution is a function of one major factor:  Are either you or your spouse an active participant in another kind of retirement plan? This can be a 401(k), 403(b) or some other employer-sponsored defined contribution plan (defined contribution simply means that the amount you can put in is regulated). If the answer here is "yes", then there are very narrow income limits under which your IRA contribution will be deductible.  Contributions to Roth IRAs are never deductible.

Why Would I Make a Nondeductible Contribution?

Here are a couple of reasons why this is a good idea:
1) It adds to your retirement nest egg.
2) If it's not deductible now, it's not taxable when you take it out. The government gets its money on one end or the other. If you can't deduct it now, that means you are paying tax on that money now.  If you pay tax on it now, you don't have to pay tax on it  later when you take the money out.

Why Contribute to a Roth IRA?

The biggest difference between a nondeductible traditional IRA and a Roth IRA is that there are no minimum required distributions from a Roth IRA at age 70-1/2. Let me say that another way: you..never..have..to..take..the..money..out!!!  You can let it grow your entire life and if you don't need it, it can go to your kids.

Conclusion

It's your retirement. You want there to be as much for you to live on as possible. If you can possibly contribute to an IRA of either kind, you should do so.

I welcome comments and questions on this and all other topics on this blog.