As I talk to people about retirement planning and their income taxes, one option that comes up frequently is Roth IRAs. The Roth IRA was established by the Taxpayer Relief Act of 1997. Annually, Congress evaluates the amount a taxpayer can contribute, but the underlying rules governing contributions (monies put in) and distributions (monies pulled out) have remained unchanged.
The maximum Roth contribution that can be made for 2017 is $5,500 for those under age 50. For those 50 and older, the maximum amount is $6,500, due to a special catch-up provision. These amounts are subject to limitations based on income levels. For example, a single individual under 50 years of age can contribute up to $5,500 if her Modified Adjusted Gross Income (MAGI) is under $118,000. If her MAGI falls between $118,001 and $133,000, she can only contribute a percentage of that amount. And once her MAGI reaches $133,000, she is ineligible to contribute at all.
Contributions to a Roth IRA must be made by the due date of the tax return, without regard to any extensions-meaning April 15 Contributions to a Roth IRA are nondeductible. This means they cannot be used to reduce taxable income on your current tax return.
The beauty of the Roth IRA is the potential for nontaxable distributions. If you are 59½ and have had the Roth IRA for at least 5 years, then there is never income tax or penalty on withdrawals. If distributions occur prior to age 59 1/2, you may pay tax and get penalized if you withdraw more than what you originally put in. The good news is that withdrawals from your Roth IRA are considered to be from your contributions first and from your earnings second. As such, there is never income tax or penalty upon withdrawing your original contributions.
Also, you can convert regular IRAs to Roth IRAs at any time without any AGI limitations, but you may have to pay income tax on the conversion. This planning tool is particularly useful for years in which a taxpayer would otherwise have a net operating loss.
But perhaps the best feature of a Roth IRA is that there are no minimum distribution requirements at age 70.5.
Is the Roth IRA the right choice for you? This overview provides the basics as a starting point, but the rules can be quite complex, depending on your tax situation. Please consult one of our tax professionals at Ketel Thorstenson, LLP for further assistance.