Tax season is well underway. This is the time when you may be considering contributing to a retirement account. You may be interested in the Roth IRA, which offers the promise of tax-free withdrawals in retirement if you follow the rules. If you are deciding whether a 2016 Roth IRA contribution is the right move for you, here are 6 tips to keep in mind:
1. Know your limits. If you were under age 50 in 2016, the maximum contribution that you may make to a Roth IRA for 2016 is $5,500. For those who reached age 50 in 2016, the maximum contribution limit is $6,500. The annual limit is aggregated for traditional and Roth IRAs. For example, you could contribute $4,000 to your Roth IRA and $1,500 to your traditional IRA. You may not contribute $5,500 to your traditional IRA and $5,500 to your Roth IRA for 2015.
2. Make the deadline. The deadline for contributing to a Roth IRA for 2016 is April 18, 2017. If you have an extension to file your taxes that does not give you more time, sooner is better than later. Don’t wait until the last minute. You never know what may happen.
3. Have the right kind of income. You or your spouse must have taxable compensation or earned income to make a Roth IRA contribution. Passive income such as investment income will not work. Social security income will not work either.
4. Designate Your Contribution. Be sure to let the IRA custodian know the year for which you are contributing. To avoid confusion be sure you designate your contribution as a 2016 prior year contribution. Interesting question, who don’t you have to tell about your Roth IRA contribution? That would be the IRS. There is no requirement that you report a Roth IRA contribution on your 2016 federal tax return. It is good practice, however, for you or your tax preparer to keep track of your Roth IRA contributions.
5. Don’t count yourself out too soon. You are never too old to contribute to a Roth IRA. You may not contribute to a traditional IRA for the year you reach age 70 ½ or any year after. However, you may make Roth IRA contributions at any age, if you are otherwise eligible.
Do you already contribute to a retirement plan at work? That is not a problem. Your participation in your company plan does not affect your eligibility to make a Roth IRA contribution.
6. Consider the Back Door. Your income must be under certain limits to make a Roth IRA contribution. When your modified adjusted gross income (MAGI) exceeds $117,000, if you are single, or $184,000, if you are married filing jointly, your ability to contribute to a Roth IRA begins to be phased out for 2016.
If your income is too high you might consider a back-door Roth IRA. You simply contribute to a traditional IRA, which has no income limits (but don’t forget the age 70 ½ rule), and convert. Sounds intriguing? Check with a knowledgeable tax or financial advisor to see if this is a good strategy for you. If you have pre-tax funds in any IRA, the pro-rata rule will apply to your Roth conversion.