Taxpayers wanting to make an IRA contribution for 2016, have until the unextended due date for filing their 2016 return, which is April 18, 2017. Contributing to an IRA has several benefits, the most important one being that you are saving for your retirement. The following is a review of the rules regarding IRA contributions and the possible tax benefits.

Age Rules

You must be under age 70 ½ at the end of the tax year to contribute to a traditional IRA. However, a Roth IRA has no age limit. Nest egg

Compensation Rules

In order to make a contribution to an IRA you must have taxable compensation. This includes wages and salaries, net self-employment income, tips, commissions, bonuses and alimony. In most cases, if you’re married and file a joint return, only one spouse needs to have compensation.

Timing of Your Contribution

You can contribute to an IRA any time during the year. To be considered a 2016 contribution, you must make the contribution by the due date of your tax return, not including extensions. This means you must contribute by April 18, 2017. If you make your contribution between January 1 and April 18 of 2017 for 2016, make sure to inform your plan sponsor to designate it as a 2016 contribution.

Amounts You Can Contribute

In general, for 2016 you are allowed to contribute the smaller of your taxable compensation for the year or $5,500. If you’re age 50 or older at the end of 2016, your contribution can be as much as $6,500. If you contribute more than these limits, you may be subject to an additional 6% tax. Keep in mind you can contribute to two IRAs, one for each spouse, although only one spouse has compensation. For example, Bob and Betty are both 45 years old and only Betty is employed in 2016. She earns $80,000 during the year. Bob and Betty can each contribute $5,500 to a deductible IRA.

Deductibility Rules

Normally, your contributions to a Traditional IRA are tax deductible, but the deductible amount phases out for taxpayers who are active participants in an employer retirement plan. (Your W-2 will indicate if you are an active participant in your employer’s plan.) A higher phaseout amount applies to unemployed spouses who make contributions based on the other spouse’s income. The adjusted gross income (AGI) phaseout range for the 2016 tax year is:

Filing Status Phase-Out Threshold Fully Phased -Out
Unmarried $61,000 $71,000
Married Filing Jointly $98,000 $118,000
Married Filing Separately $0 $10,000
Spousal IRA $184,000 $194,000

 

If you can deduct the Traditional IRA contribution, it will lower your AGI, taxable income and tax liability. Your AGI is used to limit certain other deductions and tax credits. Therefore, deductible IRA contributions will reduce your AGI and possibly increase other deductions and credits. For example, if you obtain health insurance from a Government Marketplace, lowering your AGI may increase the amount of your premium tax credit that will help to pay for your insurance.

Saver’s Credit

You may be entitled to a tax credit that helps to pay for your IRA contribution. The credit is a percentage of your IRA contribution ranging from 50% to 10% of your first $2,000 of IRA contributions. If you are married, it applies to each spouse individually. For 2016, the credit applies to married taxpayers with an AGI less than $61,500, single taxpayers under $30,750 and head of household filers under $46,125.

Traditional vs. Roth IRAs

Traditional IRA contributions are tax-deductible while contributions made to a Roth IRA are not. However, distributions from Traditional IRAs are normally taxable (except for non-deductible contributions), while distributions from Roth IRAs are tax-free.

If you would like more information about IRA contributions or other retirement plan alternatives, call our office to schedule an appointment for professional tax planning and  preparation services.