Over the years, the rules governing IRA contributions have been relaxed somewhat to encourage greater participation. In 2002, individuals could contribute a maximum of $2,000 a year to a traditional IRA, and strict income limits applied to those covered by another retirement plan. But for 2015 and 2016, you may be able to contribute up to $5,500 a year combined to a traditional and/or Roth IRA, and income limits are more generous.
So if you’d dismissed IRAs in the past, you may want to take a fresh look at these valuable tax-advantaged savings vehicles.
Contributions made to a traditional IRA may be deductible, and account funds grow tax-deferred. No tax is due until withdrawals are made — likely in retirement when you might be in a lower tax bracket.
If you’re age 50 or older you can make “catch-up” contributions. For 2015 and 2016, that’s $1,000 a year, for a total IRA contribution of $6,500. Spouses can each contribute $5,500 a year, for a total of $11,000 (or up to $13,000 with catch-up contributions) per couple.
Note that you must have earned income at least equal to what you contribute to your IRA. And if you’re age 70½ or older, you can’t contribute to a traditional IRA.
Limits on deductibility
Although more people are eligible to make deductible contributions to traditional IRAs than in the past, income limits still apply. For the 2015 tax year, if you’re single and participated in an employer-sponsored retirement plan (such as a 401(k) plan), your eligibility to deduct your traditional IRA contribution will begin to phase out (or gradually be reduced) if your adjusted gross income (AGI) exceeds $61,000. It will be eliminated if your AGI exceeds $71,000.
AGI phaseout amounts for married couples vary. If you and your spouse both participated in an employer-sponsored plan in 2015, your phaseout range for making deductible contributions is $98,000 to $118,000 joint AGI. This limit applies to both spouses. If only one of you was covered by an employer-sponsored retirement plan, only that spouse is subject to the $98,000 to $118,000 joint AGI phaseout range. For 2015, the noncovered spouse’s phaseout range is $183,000 to $193,000 joint AGI.
Even if you run up against income limits, you can still contribute to an IRA — your contributions just won’t be deductible. However, you still benefit from tax deferral because you won’t have to pay tax on your contribution’s earnings until you make IRA withdrawals in retirement.
Contributions to Roth IRAs aren’t deductible — regardless of your income level or participation in an employer-sponsored plan. But qualified withdrawals are tax-free, meaning that account earnings can avoid tax permanently.
Roth IRAs offer other benefits as well. Those 70½ and older can make Roth IRA contributions as long as they have earned income equal to those amounts. Also, Roth IRAs aren’t subject to the required minimum distribution (RMD) rules that apply to traditional IRAs (and most employer-sponsored plans). So if you don’t need the money during your retirement, you can let the account continue to grow tax-free for the benefit of your heirs. (Heirs other than spouses will be subject to RMD rules, however.)
Although Roth IRAs share annual contribution limits and deadlines with traditional IRAs, Roth income limits are higher. If you’re single, your phaseout range for eligibility to make Roth contributions for the 2015 tax year is $116,000 to $131,000 AGI. For married joint-filing couples, it’s $183,000 to $193,000 joint AGI.
Tax-free withdrawals and lack of RMDs can make converting a traditional IRA to a Roth IRA a good idea for some retirement savers. There’s no income limit on conversions. However, in the year of conversion, you’ll owe income tax on the amount converted.
Take another look
If income and other restrictions have led you to bypass IRAs in the past, it may be time to reconsider them. You might now be eligible to deduct traditional IRA contributions or make Roth IRA contributions. You have until April 18, 2016, to make 2015 tax year contributions. But the sooner you contribute, the sooner you put your money to work. Talk to your financial advisor to learn how an IRA might help you realize untapped tax benefits and what role it might play in your larger retirement savings strategy.
Watch out for new rollover limits
The IRS has clamped down on the number of tax-free IRA rollovers individuals can make in any one-year period. Effective for IRA withdrawals taken in 2015, you can execute only one traditional IRA rollover in a 365-day period, regardless of how many traditional IRAs you own.
This restriction doesn’t apply to trustee-to-trustee direct transfers between traditional IRAs or rollovers into IRAs from qualified retirement plans, such as 401(k)s. You can make as many of these tax-free transactions as you wish.