Woe to the taxpayer who runs afoul of the numerous and confusing IRA rules. There are forms to file, contributions to make, distributions to take, and penalties to avoid. While corrections are possible, it’s best to avoid mistakes in the first place. Here’s what you need to know.
IRAs come with a lot of rules, especially when it comes to taxes. Failure to follow the rules can result in penalties, excise taxes, double taxation, and in a worst-case scenario, the loss of your tax-deferred status. Here are a few tips that can help you avoid unnecessary—and costly—errors.
IRA CONTRIBUTIONS: ELIGIBILITY AND OPERATIONAL REQUIREMENTS
You must meet certain requirements in order to be eligible to make contributions to IRAs. Failure to meet these requirements can result in excess IRA contributions. Excess contributions that are not properly corrected can result in double taxation and excise tax being owed to the IRS. The following are some general eligibility requirements that must be met for IRA contributions.
- Eligible income required. Regular IRA contributions must be made from eligible compensation, such as W-2 wages and/or salary, commissions, self-employment income, nontaxable combat pay, and other amounts earned from working.
- Special rule for spouses. If a wife, for example, does not earn income from working outside the home but is married to someone who does, her IRA contribution can be based on her working spouse’s income. In such cases, the couple must file a joint federal tax return.
- Contribution limit. The dollar limit for IRA contributions is the lesser of (a) $6,500, plus $1,000 if you are age 50 or older by the end of the year, or (b) 100% of the eligible compensation you receive for the year. As a result, if you earned only $3,000 for the year, the maximum amount that can be contributed to your IRA for the year is $3,000.
- MAGI limit. Contributions cannot be made to Roth IRAs if your modified adjusted gross income (MAGI) exceeds a certain amount. Roth IRA contribution limits are phased out if the MAGI falls within a
- Deposit deadline. IRA contributions must be made by your tax filing due date, which generally is April 15 for calendar-year tax filers. Tax filing extensions do not apply. If you make any contributions between Jan. 1 and April 15 for the previous year, you must clearly designate which year contributions apply. Failure to include that information may result in the IRA custodian applying the contribution to the current year.