We thought we would all be in lower tax brackets when we retired; therefore tax deferral was the plan. However, tax rates are likely to be as high when we retire as when we are working; therefore the benefits of a Roth IRA become more attractive.
A Roth IRA is a retirement plan that allows individuals to make tax-deductible contributions of $4000, to the extent of their earned income. This means individuals may contribute the lesser of income they have earned during a particular tax year or $4000. Contributions made to a Roth IRA are made after-tax (meaning they are not tax deductible when made). These contributions, and any growth in the value of the Roth IRA, are tax-free forever.
Under the tax laws applicable to Roth IRAs, your contributions must be made as an individual taxpayer; however, they are not taken as a tax deduction on your individual income tax return (From 1040).
Since its inception in 1997, the Roth IRA has become a hugely popular investment vehicle. Like the traditional individual retirement account, the Roth IRA is a personal savings plan that offers tax advantages to set aside money for retirement.
Investments in a Roth IRA compound tax deferred, but what provides a unique advantage for the Roth IRA is that, once an individual has reached the age of 59% and his or her account has existed for more than five years, all withdrawals are tax-free.
Roth IRAs for the taxable year can be opened and/ or funded any time prior to the due date for your individual Form 1040 tax return, excluding extensions. This means any time prior to April 15 of the calender year following the tax year in which the deduction is being considered. This due date is applicable to both deductible and non-deductible Roth IRA contributions. Just remember, filing for an extension of time does not extend the time period allowed for contributions.
You can qualify to participate in a retirement plan if you have earned income (compensation) for the tax year in question under the following conditions:
If you earned profit in your business
If you paid yourself wages as an employee of your business
If you paid yourself guaranteed payments - even if your business earned no profits
You can contribute up to a maximum of $4000 every year ($4500 if you're age 50 or over), up to hte extent of 100 percent of your earned income every year, unless you are prohibited from contributing that year because you generated too much modified adjusted gross income (MAGI) during that year and are therefore subject to the MAGI.
Anyone who has earned income and falls within the MAGI limits can establish a Roth IRA. Unlike the traditional IRA, the Roth IRA has no age limit for contributions, so individuals can continue ot contribute as long as they like. (Note: In a traditional IRA, individuals can contribute only until age 70%)
Contribution to a Roth IRA are not tax deductible. Your contribution is made with after - tax dollars. However, the advantage of the Roth IRA is that you will never pay taxes on your earnings or withdrawals (distributions) as long as you have reached the age of 59.5 and your account has been open for at least five years. Annual contributions can be taken out at any time with no tax consequences. All other funds (e.g., earnings, conversion funds) can be taken out penalty-free if the account has been established for five years and the individual is over the age of 59.5. Non contribution funds taken out without meeting these requirements are taxable and subject to a 10 percent penalty. Furthermore, there are no mandatory withdrawal requirements, as there are for traditional IRAs.
Modified AGI Limits
You may contribute to a Roth IRA if you have taxable compensation and your modified adjusted gross income (Magi) is less than $110,000 ($160,000 if you are married and file a joint return, and $10,000 if you are married, lived with your spouse, and file a separate return). The amount you may contribute to a Roth IRA is gradually reduced of your MAGI is between $95,000 and $110,000 (between $150,000 and $160,000 if you are married and file a joint return, and between $0 and $10,000 if you are married, lived with your spouse, and file a separate return).
The amount you may contribute to a Roth IRA is reduced by contributions you make to a traditional IRA. The amount you may contribute to a Roth IRA also may not exceed your taxable compensation. You may continue to make contributions to your Roth IRA after reaching age 70.5.
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Rollover IRA is the process of moving retirement savings - 401(k), profit-sharing plan, etc. - into an Individual Retirement Account (IRA). Rollover IRA to Roth IRA enables you to make tax-deductible contributions.
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