Understanding Roth IRA Rules
- Roth IRA contributions are taxed but distributions are not when guidelines are met.
- You must meet IRS income requirements to participate in a Roth IRA.
- Eligible participants under the age of 50 can contribute up to $6,000 and those 50 and older can contribute up to $7,000.
- There is no required minimum distribution age.
The Roth IRA is a relative newcomer to the retirement savings space so investors may be less familiar with them than with Traditional IRA and 401(k) plans. This quick introduction to Roth IRA rules makes it easier to compare your options, so you can choose the retirement savings plan that’s best fits your needs.
How Does the Roth IRA Work?
As with all retirement savings products, Roth IRAs are intended to make saving for retirement easier and more attractive through tax incentives. However, unlike other savings plans, you pay taxes on your contributions to a Roth IRA in the same year that you earn the income but you don’t pay taxes on earnings when you withdraw funds.
In order to encourage retirement savings, there is an extended contribution window of 15 months for all IRAs. You can contribute to your Roth account for the current year up to the tax filing deadline of the following year. For example, in the 2019 tax year, contributions can be made to a Roth IRA from January 1, 2019 to about April 15, 2020.
What are the Benefits of a Roth IRA?
Roth IRAs are attractive for three primary reasons:
- As long as your money has been in the Roth IRA for at least five years, your qualified distributions are tax-free.
- There is no maximum age limit for making contributions to your Roth IRA, which is becoming more relevant as people choose to work longer.
- There is no current requirement to take distributions during your lifetime. If you don’t need to use the money, you can leave it in your Roth IRA to be distributed to your beneficiaries or your estate.
The IRS has set a limit to the amount you can contribute to Roth IRAs. Currently, eligible participants under the age of 50 can contribute up to $6,000. Participants 50 and older can contribute an additional $1,000, for a total of up to $7,000.
Who Qualifies for Roth IRA Contributions?
Each year, the IRS publishes updated income guidelines that determine who can make contributions to a Roth IRA and how much can be contributed. The income figure considered in determining eligibility is your modified adjusted gross income (MAGI), which is a different amount than the adjusted gross income (AGI) number that determines your tax liability.
Roth IRA income eligibility is as follows:
|Filing status||Modified AGI||Contribution amount is…|
|Married filing jointly or qualifying widow||< $196,000||up to the limit|
|> $196,000 but < $206,000||a reduced amount|
|Married filing separately||< $10,000||a reduced amount|
|Single, head of household, or married filing separately||< $124,000||up to the limit|
|> $124,000 but < $139,000||a reduced amount|
Source: IRS website
When Can You Withdraw from a Roth IRA?
Since your contributions are taxed upfront, there is no required age at which you must take distributions from your Roth IRA. However, it is important to be aware that Roth IRA distribution rules, particularly this feature, are regularly reconsidered during national budget-related conversations.
You can withdraw up to your total contribution amount at any time, without fear of taxes or penalties. For example, if you have contributed $50,000 to your Roth IRA account and its value has increased to $60,000, you can freely decide to withdraw up to $50,000 at any time. Be sure to keep careful records of your contributions, as you must be able to provide documentation of the amount you deposited if you wish to avoid taxes and penalties.
Your withdrawal is considered a qualified distribution if your first Roth IRA contribution was made more than five years ago and you fulfill one of the following requirements:
- The distribution is taken at age of 59 ½ or older
- You have become disabled
- The distribution is being taken by your beneficiary or your estate after your death
- Up to $10,000 can be taken toward the purchase of your first home
If your distribution is not considered qualified, then your earnings may be taxed and you may be subject to 10% additional tax penalty. However, there are certain circumstances where you may take a non-qualified distribution and pay taxes on earnings but avoid the 10% penalty. These exceptions include the following:
- Certain college expenses for you and your family
- A series of substantially equal payments that will go on for at least five years or until you are 59 ½, whichever is longer
- Unreimbursed medical expenses that exceed 7.5% of your adjusted gross income
- You have lost your job, and you need to pay health insurance premiums to retain coverage
- An IRS levy has been applied
- A qualified reservist distribution
- A qualified disaster recovery assistance distribution
Are There Tax Credits for Making Roth IRA Contributions?
Finally, the essential question you may want to know is whether there are additional tax incentives for making Roth IRA contributions. As with all things tax related, the answer can vary depending on your personal situation. Known as the Retirement Savings Contributions Credit (Saver’s Credit), this tax credit was designed to encourage individuals with low and moderate income levels to increase retirement savings.
Nothing in this article should be construed as tax advice, a solicitation or offer, or recommendation, to buy or sell any security. This article is not intended as investment advice, and Wealthfront does not represent in any manner that the circumstances described herein will result in any particular outcome. Financial advisory services are only provided to investors who become Wealthfront clients.
This article is not intended as tax advice, and Wealthfront does not represent in any manner that the outcomes described herein will result in any particular tax consequence. Prospective investors should confer with their personal tax advisors regarding the tax consequences based on their particular circumstances. Wealthfront assumes no responsibility for the tax consequences to any investor of any transaction. Investors and their personal tax advisors are responsible for how the transactions in an account are reported to the IRS or any other taxing authority.