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Roth IRA Rules by Britt Gillette
What are the rules governing a Roth IRA?
That's a great question, because...
Before you open a Roth IRA, you need to know the basic rules of the game.
Luckily, the IRS keeps the rules pretty simple.
The basic rules cover the following topics...
1) Taxation
2) Earned Income
3) Age
4) Income Limits
5) Contribution Limits
6) Withdrawals
7) Investment Options
Learn the IRS rules to the above topics, and you know just about everything you'll ever need to know about the rules governing a Roth IRA...
Roth IRA Taxation
You must fund your Roth IRA contributions with after-tax income.
Unlike a traditional IRA, a Roth IRA is not tax deductible.
However, this shortcoming is easily offset by the future tax-free growth and tax-free withdrawal of those same contributions...
That's right. Once you fund a Roth IRA, you never have to pay income taxes or capital gains taxes on the investing funds or subsequent investment gains ever again!
For example, let's say you fund your Roth IRA with $1, 000 in after-tax income. You use that money to purchase $1, 000 worth of stock. After three years, the stock is worth $2, 000. You sell it.
But instead of paying capital gains tax on the $1, 000 gain, you pay zero tax. You can then reinvest the entire $2, 000 in something new...
Thirty years later, when the $1, 000 is worth $15, 000, you can withdraw the entire $15, 000 and not owe a single penny in taxes!
Earned Income
In order to contribute to a Roth IRA, the IRS requires you to have earned income during the taxable year of the contribution...
And the amount of your contribution can not exceed your earned income for the year.
If your primary source of income is from a current job or business, this shouldn't be a problem.
However, if you're retired and living off of a pension or social security, you can only contribute from your earned income...
You can't contribute your social security check to a Roth IRA.
Also, if you're a minor, you can't contribute gifts from grandparents or family members...
Only money earned and reported as taxable income...
Roth IRA Age Requirements
IRS regulations don't institute a minimum or a maximum age for opening or investing in a Roth IRA.
The only requirement is that the Roth IRA account holder fund the account with earned income...
So, if you're a five-year-old with earned income from a lemonade stand...
Or a ninety-two-year-old with earned income as the local Wal-Mart greater...
Then you meet the age requirement for opening and contributing to a Roth IRA!
In short, there is no Roth IRA age requirement, just an earned income requirement.
Roth IRA Income Limits
Eligibility to open a new Roth IRA or contribute to an existing one is limited to people with income in a certain range.
Your "income" in the eyes of the IRS is the same as your Modified Adjusted Gross Income (MAGI)...
So what's Modified Adjusted Gross Income?
It's convoluted bureaucratic language meaning "your personal income. "
Look at your IRS Form 1040 (the one you use for filing income taxes). Find the number for Adjusted Gross Income (AGI).
Once you add back certain items to your AGI,[link widoczny dla zalogowanych], you'll come up with a figure for MAGI. Then you'll be able to see if you meet the income limits for a Roth IRA.
Click here to learn more about Modified Adjusted Gross Income (MAGI) and how to calculate it.
Anyway, once you figure that out, the Modified Adjusted Gross Income (MAGI) limits for a Roth IRA are as follows:
1) $169, 000 for married individuals who file a joint tax return.
2) $10, 000 for married individuals who file a separate tax return and lived with their spouse at any time during the course of the tax year.
3) $116, 000 for individuals who file as:
a) Single
b) Head of household
c) Married filing separately and did not live with their spouse at any time during the course of the tax year.
Roth IRA Contribution Limits
The annual contribution you can make to your Roth IRA is limited by IRS rules.
As of 2009, you can make an annual contribution of...
a) $5, 000 if you're under the age of 50 and don? t exceed the income limits
b) $6, 000 if you're over the age of 50 and don? t exceed the income limits
c) A dollar amount which varies somewhere inbetween as you approach the upper income limit
d) Zero dollars if your income exceeds the upper income limit
Roth IRA Withdrawals
Unlike a traditional IRA, you can withdraw previously contributed principal payments from a Roth IRA without incurring an early withdrawal penalty...
For example, let's say you open a Roth IRA and contribute $2, 000.
One year later, the account is worth $2,[link widoczny dla zalogowanych], 500.
Under IRS rules, you can withdrawal up to $2, 000 without incurring a penalty...
But the $500 investment gain can't be touched.
Withdrawals of investment gains are different story, though.
In order to withdraw investment gains without penalty, you generally need to meet two requirements...
1) The funds have been in the account at least 5 years
2) You've reached the age of 59?
However, there are exceptions to these rules.
They're called qualified distributions, and they allow you withdraw funds without penalty for special purposes, such as funding of education expenses and the purchase of a first home.
Just be sure to do your homework before taking advantage of one of these special exemptions...
It's probably a good idea to consult with your accountant first.
Roth IRA Investment Options
As a general rule,[link widoczny dla zalogowanych], you can fund your Roth IRA with any combination of the following investment vehicles...
a) Common Stocks
b) Bonds
c) Mutual Funds
d) Certificates of Deposit (CDs)
e) Exchange Traded Funds (ETFs)
f) Money Market Accounts
g) Savings Accounts
h) Treasury Inflation Protected Securities (TIPs)
i) Real Estate Investment Trusts (REITs)
j) Platinum, Gold, and Silver Coins
While the range of asset classes is wide and varying, not every traditional investment option is available for your Roth IRA.
A few investments you can't fund your Roth IRA with include...
a) Collectibles (Priceless art, classic autos, antiques,[link widoczny dla zalogowanych], stamps, etc. )
b) Cash Value Life Insurance
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