After saving in an employer sponsored retirement plan, the next bucket to consider saving in is Individual Retirement Savings Accounts.
IRA contribution limits for 2022 & 2023
- The maximum contribution for 2022 is $6,000, with an increase of $500 to $6,500 for 2023 or 100% of your earned income, whichever is less.
- If you are age 50 or older, you can add a “catch-up” contribution of $1,000 for both 2022 and 2023.
- Note that a non-working individual can use their spouse’s earned income to contribute to an IRA.
IRA Required Minimum Distributions for 2023
When you reach age 73, required minimum distributions (RMDs) begin for Traditional IRAs. Roth IRAs do not have RMDs.
Types of Individual Retirement Savings Accounts
There are several tax incentives associated with Traditional Individual Retirement Accounts (IRA). If you don’t have a retirement plan through your employer, like a 401k, the contributions you make to a traditional IRA are usually tax-deductible. (Note: this is subject to income limits)
- Accumulation Key: Even if you don’t qualify for a tax-deductible IRA contribution, you can still make an after-tax contribution to a traditional IRA. If you leave your current job, you can roll your 401k over into a Rollover IRA.
- In Retirement Key: When you reach the age 73, required minimum distributions begin on a traditional IRA with the distributions taxed as ordinary income, except any after-tax contributions which are not taxed. The penalty is significant if you miss your RMD, 25% of the amount not withdrawn. It is imperative to understand the rules surrounding drawing down your retirement accounts. Even if you don’t need the RMD for living expenses, make sure the funds are withdrawn and reinvested in a non-retirement account. Another option is to gift the money to charity directly from the IRA by using a Qualified Charitable Donation (QCD), no taxes are due on distributions made via a QCD.
You could choose to make your annual IRA contribution to a Roth IRA. One of the more attractive retirement accounts available because the money grows inside the account tax-free and there are no taxes on withdrawals. There are also no required minimum distributions with a Roth IRA. There are income thresholds that limit who may contribute directly to a Roth IRA. For 2022, to contribute the maximum, your adjusted gross income must be less than $129,00 if single or $204,000 if married filing jointly. For 2023, the adjusted gross income limits are $138,000 if single or $218,000 if married filing jointly.
- Accumulation Key: There are other ways to get money into a Roth IRA if you are above the income contribution limits:
- Contribute and Convert: If you have a Traditional IRA account, you may be able to utilize a strategy called a back door Roth where you contribute after-tax dollars to a Traditional IRA (no tax deduction) and then convert those tax-free into a Roth IRA. The Build Back Better legislation passed in the House of Representatives would have eliminated the back door Roth as part of its tax reforms. That bill never received a vote on the Senate floor. It seems like the Back Door Roth is on borrowed time, but for now, it is still allowed. We will continue to monitor legislation out of Nation’s capital along with updates from our Washington insiders. This strategy works best for those who don’t have other IRA monies, as the IRS requires rollover from traditional IRAs to Roth IRAs to be done pro rata. The IRS is going to look at all of your traditional IRA accounts combined at year-end.
- Roth Conversion: Another way to get dollars into a Roth account is by doing a Roth Conversion. You take a distribution from your current IRA or 401k and roll it into a Roth account. You pay taxes on that distribution in the current tax year while creating a Roth tax-free bucket for the remainder of your life (under current tax law). The conversion is not limited to the $6,500 – you can convert as much as makes sense based on your other taxable income and time horizon. A great time to execute this strategy is when you are in that “income valley” between having paycheck income and taking the required minimum distributions from your retirement accounts. We can model this in our financial planning software for you if you are interested in learning more.
- In Retirement Key: There are no taxes on withdrawals, so the Roth IRA is a great emergency fund bucket in retirement if other funds are not available. If you need to pay for a major expense, you won’t also have the associated tax bill from the tax-deferred account, such as in an IRA or 401k. You can always withdraw your contributions without incurring taxes or penalties. Once you are over the age of 59.5 and have held the account for at least five years, you can withdraw contributions and earnings with no tax or penalty. Another key advantage of a Roth IRA is that there are no required minimum distributions (RMD). That means you can keep the money growing tax-free for your entire life. This is what makes Roth IRAs a popular choice for families looking to preserve generational wealth. The account can grow tax-free, and the owner can pass it on to the next generation with no income tax burden to the recipient. With the passage of the SECURE Act, the Roth IRA passed on to a child can grow tax-free for another ten years before any withdrawals need to be taken.
Individual Retirement Savings Accounts (IRAs) are powerful tools for individuals to save for their retirement years. IRAs provide individuals with a tax-advantaged way to save money for their future, and there are several types of IRAs to choose from. Traditional IRAs provide tax-deductible contributions and tax-deferred growth, while Roth IRAs offer tax-free withdrawals in retirement. With the ability to open an IRA at almost any financial institution and a wide range of investment options available, it is never too early or too late to start saving for retirement with an IRA. By taking advantage of the benefits of IRAs, individuals can secure their financial future and enjoy a comfortable retirement.