Your IRA – Its Really Amazing

  • Recent legislation has relaxed some of the restrictions and taxes on IRA distributions.

  • For example, working persons may make contributions to an IRA regardless of age, and required minimum distributions have been suspended for 2020.

  • Now may just be the very best time ever to convert a traditional IRA to a Roth.

The question isn’t at what age I want to retire, it’s at what income.”

–George Foreman, former World Boxing Association Heavyweight Champion

As I’m sure you already know, an individual retirement account (IRA) is a tax-deferred (and in some cases tax-free) retirement account that allows individuals to save for retirement.  IRAs arose out of the Employee Retirement Income Security Act (ERISA) of 1974, in an effort to provide working-class Americans with the opportunity to supplement the social security benefits received in retirement. 

Initially, there was a single type of IRA, and only individuals who were not eligible to participate in an employer-sponsored retirement plan were allowed to open one.  Today, there are at least 7 different types of IRAs (depending on how you classified them)[1], and just about everyone who is working, or has participated in a retirement plan when they were working, can set one up.

The basic characteristics: contributions to the IRA can be made on either a pre-tax (traditional IRA) or after-tax (Roth IRA) basis; income earned on the IRA’s assets is not taxed, and distributions from the IRA are either taxable (traditional IRA) or tax-free (Roth IRA).

Since their inception, IRAs have been subject to a large number of rather stringent requirements intended to limit their tax benefits.  These restrictions include:

  • Age Limits. Prior to the Secure Act (discussed below), only persons 70 ½ years of age or younger were allowed to contribute to an IRA, and only if he or she has earned income to contribute.

  • Tax Deduction Limits. The tax deduction for IRA contributions phases out as income rises if you participate in an employer-sponsored retirement plan (in which case there is no phase-out).

  • Contribution Limits. For 2020, annual IRA contributions are limited to $6,000 ($7,000 if you’re age 50 or older), or your earned income, whichever is less.

  • Deferral Limits. “Required minimum distributions” (“RMDs”) must be made to the owners of traditional IRAs when they reach their “required beginning date”.[2]  The amount of each year’s RMD is calculated dividing the prior December 31st account balance by a life expectancy factor that IRS publishes.  RMDs, therefore, increase as the owner ages.

  • Withdrawal Limits. Subject to limited exceptions, withdrawals before age 59 ½ trigger a 10% penalty in addition to whatever income taxes may be due.[3]  Loans from your IRA can be used to avoid the penalty, but the loan maximum is $50,000 or 50% of the account balance.

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