Compensation for the purpose of contributing to an IRA does not include property gains and profits, such as rental income, interest and dividend income, or any amount received as pension or annuity income, or as deferred compensation. No, deferred income is not eligible compensation for making an IRA contribution. Passive income, including most retirement income, is not considered eligible compensation. The following are not considered eligible compensation.
The incentive to contribute to a Roth IRA is to generate savings for the future and not get a current tax deduction. Contributions to Roth IRAs are not deductible during the year they are made; rather, they consist of after-tax money. That's why you don't pay taxes on funds when you withdraw them; your tax bill is already paid. Low-maintenance investments with index funds and ETFs The definition of compensation is important because IRA contributions for a given fiscal year are limited to the amount of your “compensation” that is included in your gross income for the year.
If you're married, your and your spouse's combined IRA contributions are limited to your combined compensation. While it is ultimately the responsibility of the IRA owner to know if he is eligible to make an IRA contribution, telling him the right resources beforehand can save him time and money in the long run. There are also no minimum distributions (RMDs) required, so you can leave your Roth IRA to your heirs if you don't need the money. You may be able to get around income limits by converting a traditional IRA to a Roth IRA, which is called a clandestine Roth IRA.
Of course, as with other tax-advantaged retirement plans, the Internal Revenue Service (IRS) has specific rules on Roth IRAs. You can withdraw your Roth IRA contributions at any time and for any reason, without having to pay taxes or penalties. Every year you make a contribution to the Roth IRA, the custodian or trustee will send you Form 5498 with information about IRA contributions. Unfortunately, IRS regulations prevent you from maintaining joint Roth IRAs, which is why the word “person” appears in the account name; however, you can achieve your goal of contributing larger sums if your spouse sets up their own IRA, whether it works or not.
Contributions to the Roth IRA may be limited by the person or couple's modified adjusted gross income (MAGI). In addition, participating in a qualified retirement plan has no influence on your eligibility to make contributions to the Roth IRA. The tax advantage account team at Wolters Kluwer often receives questions related to eligibility to contribute regularly to the Individual Retirement Account (IRA). Under certain conditions, Roth IRAs also allow tax-free earnings to be withdrawn, which are subject to taxation in a traditional IRA.
For an opportunity to learn more about IRAs and other tax-advantaged accounts, including Coverdell health savings accounts and education savings accounts, consider the Wolters Kluwer IRA library or the video-on-demand training offered on a variety of topics.