Contributions to a Roth IRA: A Step-by-Step Guide

Last Updated on 6th July 2022 by Jeffrey Camerda

One of the best ways to save money for your retirement is by using the Roth Individual Retirement Account (IRA). This sort of retirement account, like its cousin, the traditional IRA, enables your assets to grow tax-free. Additionally, you can withdraw your contributions (but not your gains) at any moment without incurring any additional tax obligations. 

Tax-free withdrawals of profits from a Roth IRA may also be made under specific circumstances. To be eligible, you must be at least 59 years old, have a disability, or be purchasing a house for the first time.

In the same way that the Internal Revenue Service (IRS) has unique regulations for tax-advantaged retirement plans, Roth IRAs have their own set of requirements. There are limitations on how much you may contribute, as well as restrictions on how much you can remove from your account.

QUICK THOUGHTS

  • The only thing that goes into a Roth IRA is after-tax money that’s earned (IRA).
  • In 2021 and 2022, the average American may make a Roth IRA contribution of $6,000 without penalty. The upper age restriction is $7,000 for those who are 50 and beyond.
  • Based on your family’s income and filing status, you may have additional contribution restrictions. You can’t donate at all if your earned income is too high.
  • Roth IRA contributions may be withdrawn tax-free at any time.
  • If you take money out of a Roth IRA, taxes and penalties may apply based on your age and the account’s age.

Eligibility for a Roth Individual Retirement Account

To be able to make a Roth IRA contribution, you must be employed. Two sources of eligible income are available:

  • For a fee, you may be able to work for someone else. Commissions, tips, bonuses, and taxable fringe benefits are all included in this category.
  • Roth IRA contributions are recognized as earned income if you operate a company or farm or have other sources of self-employment income. Combat pay is exempt from taxation as is military differential pay and alimony that is taxable.

Investing in stocks, real estate, or other assets generates unearned income. As a result, Roth IRA contributions are not possible. It does not count: Other forms of common sources of income are;

  • Alimony  (nontaxable).
  • Children’s welfare.
  • Pensions provided by the Social Security Administration.
  • Benefits for those who are out of work.
  • Earnings from prison convicts’ wages

Roth IRA contributions may be made at any time, regardless of your age. A good example of this is a Roth IRA, which may be opened and funded by a teenager with a summer job. (If they’re under 18, it may be necessary to use a custodial account.) People in their 70s who are still working may contribute to a Roth IRA.

Traditional IRAs may be opened by people of any age. Traditional IRA members could no longer make contributions beyond the age of 70 in the past. Traditional IRA contributions may now be made at any age, according to the December 2019 enactment of the SECURE Act, which eliminates the age limit.

A qualified retirement plan does not affect your ability to contribute to a Roth Individual Retirement Account. It’s possible to contribute to a 401(k) plan at work and then contribute to a Roth IRA, providing you have the money and fulfill the income requirements.

Income Limits for Roth IRAs

Roth IRA contribution eligibility is also determined by your total annual income. High earners are restricted by income restrictions established by the IRS. The maximums are determined by your MAGI (modified annual gross income) and whether or not you have filed a tax return. To calculate MAGI, your tax return’s adjusted gross income (AGI) is subtracted from your gross income, and the interest on student loans, self-employment taxes, and college expenditures are added back in.

If you are single and your MAGI is less than $125,000 (or $198,000 if you are married and filing jointly), you may contribute the entire amount in 2021. Maximum contribution diminishes when MAGI rises over that threshold. Unless you’re married and filing jointly, your MAGI cannot exceed $140,000 (or $208,000 in the case of single filers).

Most years, these upper limits are raised. For full Roth contributions in 2022, you must earn less than $129,000, and for partial contributions up to the maximum MAGI of $144,000, you must earn less than $144,000. Limits of $204,000 and $214,000 apply to married couples filing jointly.

$6,000 or $7,000, depending on your age, will be available to most individuals. To make a partial Roth IRA contribution, your MAGI must fall within the phaseout range. Even if you meet the requirements, your MAGI won’t allow you to participate.

To keep up with inflation and other developments, the IRS adjusts the Roth IRA income restrictions each year. The worksheet in IRS Publication 590-A may be used to calculate MAGI and the corresponding contribution limits.

IRA contribution and eligibility amounts for the following tax year are usually released in the fourth quarter of the preceding year, so the amounts for 2023 should be available in Q4 of 2022.

 Roth IRA Contribution Limits

Anyone of any age may contribute to a Roth IRA, but the yearly contribution must not exceed the amount of money they make each year, regardless of age. For example, a married pair filing jointly with a MAGI of $175,000 may be Henry and Henrietta. Roth IRAs are available to each of them. Each of them may give up to $6,000 in 2021, for a maximum total of $12,000.

Couples with wildly differing earnings may be inclined to add their high-earning spouse’s name to their Roth IRA to contribute more money. The term “individual” is included in the account name since the IRS prohibits combined Roth IRAs. Even if your spouse does not work, you may still make bigger contributions if they set up their own IRA.

How? Let’s return to our imaginary couple as an example. Assume Henrietta is the principal earner in the family, bringing in $170,000 yearly, while Henry manages the household and earns $5,000. Henry’s IRA and Henrietta’s may both be funded up to the $12,000 limit. In this scenario, one spouse contributes to both of their individual retirement accounts (IRAs).

There must be joint tax returns for the contributing spouse and enough earned income to fund both contributions for the spousal IRA to operate.

The Bottom Line

Contributions to a Roth IRA are not tax-deductible, but they allow you to set up a tax-free savings account. You may either withdraw the funds from this account when you retire or leave them to your heirs as a bequest. Roth IRAs provide many of the same benefits as conventional IRAs, but with more flexibility and a greater degree of customization. Those who are more likely to require tax relief at a later date will benefit from them. It’s simple to open a Roth IRA, and several reputable companies provide this kind of account.

Jeffrey Camerda

Dr. Jeffery Camerda, PhD, is a financial planner who specializes in wealth management and retirement planning. With a PhD in Economics and Financial Planning, Jeffery represents the highest level of financial planning expertise and achievement in the USA In addition to preparing you for a career in financial planning, a PhD in economics and finance also prepares you for academic pursuits, such as becoming a university professor in teaching or doing research. Here at the Wealth Builder, our financial advisory company was founded in 2007 and services all across the USA with over 16 years of expertise. In order to provide the finest advice and services, we pay close attention to the specific financial circumstances and requirements of each client. In order to guarantee that our clients don't get a sales pitch for insurance or investments, as well as a lack of conflict of interest from a prospective commission-bearing corporations, Jeffery focuses on fee-based services. Financial planning for wealth managers, financial well-being workshops, and personal financial planning packages are all part of the company's offering. Jeffrey Camarda, PhD, CFA, EA is also the founder of the Family Wealth Education Institute, is a member of the Financial Planning Association and serves as the Chairman of Camarda Wealth Advisory Group

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