Individual Retirement Account (IRA)

• Individual Retirement Account (IRA)
  • IRAs & High Income Earners
  • How the IRS views IRAs

Note: This section is in reference to Roth/Traditional IRAs, and excludes information regarding SIMPLE & SEP IRAs which are employer sponsored IRAs.

IRAs are funded with post-tax earnings, meaning they need to be funded outside of payroll contributions. Additionally, the contributions must be from “earned income” which is defined by the IRS in the contributions section. Given this rule, no, you cannot contribute to an IRA of your child unless they have employment.

The contribution calendar for IRAs is also between the 1st of the calendar year, but extends through the filing date of the same tax year. This means for 2022 contributions to IRAs can be made from Jan 1, 2022 through Apr 18, 2023.

IRAs & High Income Earners

Traditional IRAs are funded with post-tax income (aka money from your paycheck after taxes are withdrawn). As a high income earner (IRS defines this as $129,000 for married couples), you are phased out of taking a tax deduction on these contributions. However, you’re still able to make the contribution (whereas with Roth, you would pay a penalty on direct Roth contributions if over the limit).

This is called a “non deductible traditional IRA.” This account alone has very little benefit, as you were taxed on the contributions & will be taxed on the gains when withdrawing from the account. The only benefit of a non deductible traditional IRA is that transactions and dividends within these accounts are not taxed. This is a very minor tax saving. However, a non-deductible traditional IRA is necessary to perform a Backdoor Roth IRA.

Another complication of IRAs as a high income earner, is that direct Roth contributions are not allowed. If you are a married couple, the MAGI in which you cannot contribute to a Roth is $214,000 combined. However, you can perform a backdoor Roth IRA at any income.

How the IRS views IRAs

IRAs are seen as one account across all brokerages and the tax treatments of each account is just seen as a “bucket” within an IRA. This is important to note because of pro-rata taxation. You can contribute $3,250 to an IRA with Fidelity and $3,250 to an IRA with Vanguard and the IRS will note that you contributed $6,500 to IRAs. If you were to exceed the limit because you contributed to multiple accounts, you will be penalized.

There are a few types of IRAs that others may not have to be aware of, which are SEP and SIMPLE IRAs. These are generally pretty rare, but if you have these types of accounts, you should be aware that the IRS treats them all as the same account.