Reasons to Contribute to a Roth Ira

Understanding the contribution rules for a Roth IRA is an essential part of retirement planning.  The Roth IRA is a personal retirement savings plan that offers significant tax advantages for contributions of up to $6,000 per year.

Introduced by five-term Republican Senator, William V. Roth, the Roth IRA has been popular since its inception in 1997.  The Roth IRA features tax-free growth, allows for both conversions and rollovers and has no age restrictions on contributions.  As long as compensation guidelines are not exceeded, individuals over 50 years of age can contribute up to $6,000 per year and those 49 years and younger are allowed maximum contributions of  $5,000 per year.  Compensation guidelines are listed below.

The Roth IRA’s greatest advantage is that all qualified distributions are tax-free.  That means that once income taxes have been paid on the principal, those funds can be invested in a Roth IRA to earn tax-free compounded interest for an unlimited amount of time.  Contributions to a Roth aren’t tax deductible, so they won’t lower the amount of tax you owe, but the purpose of the IRA is to encourage a self-funded retirement, not to lower taxes.

Unlike a Traditional IRA, the Roth has no age limit.  Contributions can still be made after the age of 70½ and as there is no mandatory distribution age, both principal and capital gains are allowed to remain in the account earning interest, throughout life.  There are two main reasons why this is important:  Due to advances in medicine, people are living longer which means retirement funds need to last longer.  With a Roth IRA, funds can continue to earn interest, growing until they are actually needed, without penalty.  The second reason is that while Individual Retirement Accounts cannot be jointly owned, any money remaining in an IRA upon death can be paid to family members or designated beneficiaries without being taxed.

A distinct advantage of the Roth IRA that is commonly overlooked is the ability to open an account for a child (Traditional IRA’s have age limits).  Any minor with earned income within the allowable contribution limits is allowed to contribute to a Roth.  Einstein is credited with saying that compounded interest is the ‘most powerful invention’.  Just imagine 50 years of that kind of power, quietly building a strong nest egg for an industrious child! 

Children are eligible to contribute to a Roth IRA (a Traditional IRA has age limits) if they receive money for modeling, acting, working in a family business or any other legal employment that generates earned income.  The amount of wages they receive must be reasonable for the work they perform and contributions to the IRA cannot exceed the amount of income they earned during that year.  Since there are no mandatory annual contribution rules, money can be deposited in years they work and simply earn interest in years they don’t.

Individual Retirement Accounts are not a type of investment but a description of their tax status.  All Roth IRAs are taxed the same way whether they are invested in stocks, bonds, CD’s, annuities, etc.  Funding for an IRA can include after-tax wages, roll-overs or conversions.                

Those wishing to consolidate retirement accounts can ‘roll-over’ funds from qualified retirement plans such as 401K’s and 403B’s or roll-over funds from one Roth account into a different Roth account.  Eligible Distributions received from a deceased spouse’s pension, 401K, 403B or annuity can also be rolled-over and used to fund a Roth IRA.  Traditional IRA’s and SIMPLE IRA’s can be converted into a Roth IRA but will be subject to income tax rules.

The Roth IRA was created to encourage middle class Americans to save for their own retirement by offering favorable tax status to invested funds.  Because Traditional IRA’s became a frequently used tool of the wealthy to lower their tax burden, Congress created compensation limits for the Roth IRA using a person’s income and marital status and applying a 6% excise tax to any excess contributions.  Traditional IRA’s are a possible investment alternative if an individual exceeds the following compensation guidelines.  Investors should always speak with a tax advisor before opening or contributing funds to any type of investment.

Your contribution to a Roth IRA may be affected by the amount of your modified adjusted gross income or modified AGI.  If your tax filing status is:

Married Filing Jointly or you are a Qualifying Widow(er)

Modified AGI of less than $166,000          You can contribute up to $5,000 ($6,000 if you are age 50 or older)

Modified AGI of at least $166,000               The amount you can contribute is reduced
but less than $176,000

Modified AGI of $176,000 or more              You cannot contribute to a Roth IRA

Married Filing Separately and you lived with your spouse at any time during the year

Modified AGI of $0                                            You can contribute up to $5,000 ($6,000 if you are age 50 or older)

Modified AGI of more than $0                         The amount you can contribute is reduced
but less than $10,000

Modified AGI is $10,000 or more                   You cannot contribute to a Roth IRA

Single, Head of Household, or Married Filing Separately and you did not live with your spouse at any time during the year

Modified AGI is less than $105,000              You can contribute up to $5,000 ($6,000 if you are age 50 or older)

Modified AGI is at least $105,000                  The amount you can contribute is reduced
but less than $120,000

Modified AGI is $120,000 or more                  You cannot contribute to a Roth IRA


Capital Gain                 Interest earned on the Principal

Contributions                Money put into an IRA

Conversion                   Movement of assets; specific tax rules apply

Distribution                   Money taken out of an IRA

Earned Income            Examples: Wages, Salaries, Commissions, Tips

IRA                                 Individual Retirement Account

Passive Income           Examples: Interest payments, Rental payments, Inheritance

Principal                       Money deposited into an account

Qualified                       Meets certain rules set by Congress and the IRS

Roll Over                      Movement of assets; specific tax rules apply

Tax Deductible            Reduces taxable income