Rules for IRA Owners

By Shani Valdez

  • Overview

    Rules for IRA Owners
    Taxpayers need to keep in mind IRA rules when choosing a personal retirement account, making contributions or withdrawals. Contribution limits and tax-deductibility or non-deductibility will impact your retirement contribution and distribution decisions tax-wise. Review publication 590 to see the latest personal IRA legislation. Employer retirement accounts SEP IRA and SIMPLE plan rules vary on contributions and distributions, but share many traditional IRA guidelines and are tax deferred retirement account like the traditional IRA.
  • Eligibility Rules for Personal IRAs

    IRA income limits determine contribution, conversion and tax-deductibility eligibility. Traditional IRAs allow taxpayers with compensation to contribute, but have tax-deductibility limits that effect whether contributions are fully, partially or totally tax-deductible. Roth IRAs income limits determine contribution and conversion eligibility, but conversions will soon be allowed regardless of modified AGI income limits. Taxpayers unable to make Roth contributions can contribute to a traditional IRA and then convert those assets once legislation is effective next year.
  • Eligibility for SEP or SIMPLE IRAs

    SEP and SIMPLE IRAs are employer-sponsored retirement plans. Employers offering SEP plans to eligible employees opt to contribute zero to 25 percent of employees' wages annually, however employee salary reduction contributions are not permissible. Sole proprietors may contribute up 20 percent of adjusted net profit (look at publication 560), while not exceeding the $46,000 contribution cap (for all participants). SIMPLE IRAs are 401k alternatives for businesses with fewer than 100 employees, and provide lower administrative costs. Employees earning at least $5,000 in compensation may make salary reduction contributions, which adhere to the same contribution limits as 401k and 403b plans.

  • IRA Distribution Rules

    Non-Roth IRAs has similar traditional IRA distribution guidelines. You are allowed to take distributions penalty-free at age 59 ½ and are required to start Required Minimum Distributions (RMDs) at 70 ½. A percentage of tax-deductible and nondeductible contributions are withdrawn when distributing funds, you cannot order your distributions. Roth IRAs allow contributions to be withdrawn at anytime because upfront taxes were paid, but earnings and conversions require special attention due to the required five-year holding period. Distributions follow ordering rules (contributions, tax-deductible conversions then nondeductible conversions, then earnings). SIMPLE IRAs require participants to hold assets for two years starting from the first dated contribution before distributing funds.
  • Tax-Deductibility Rules

    Roth IRA contributions are nondeductible and earnings remain tax-free if you meet the five-year holding period and take qualified distributions. Traditional, SIMPLE and SEP IRAs are tax deferred plans. Traditional IRAs do have tax-deductibility limits. If you are required to make nondeductible contributions, you must keep track of those contributions on Form 8606 so that the IRS will taxes you correctly on your distributions. Nondeductible contributions are not taxed again but the attributable earnings are taxed when withdrawn. All tax-deferred withdrawals will be subject to taxes at your marginal rate of interest.
  • Considerations

    Roth IRAs offer the most flexibility, but you may not qualify to make contributions. If you want to make contributions beyond age 70 ½, have withdrawal flexibility, want tax-free earnings and don't want RMD requirements, than a Roth is ideal if you are eligible to contribute or do a conversion. If you qualify for tax-deductibility and feel your taxes will be lower when withdrawing funds, then a traditional IRA may be a better retirement account. SEP account participants may contribute their maximum personal IRA contribution into the account since a SEP is a traditional IRA vehicle or rollover SEP IRAs into a traditional IRA at anytime. SIMPLE account participants may contribute to a separate personal IRA while deferring salary to this qualified plan.
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