Unlike regular IRA, Roth contributions have no age limits

Money Talk

Your Money

October 24, 2004|By MATT LUBANKO

I am 72 years old. Can I still contribute to a Roth IRA? How about a regular IRA?

-- E.R., Baltimore Yes for the Roth, no for the regular IRA.

People age 50 and older can contribute up to $3,500 a year to a Roth IRA; the maximum contribution is $3,000 for people under age 50. Each has until the mid-April federal income tax filing deadline to make a Roth IRA contribution for a prior tax year.

Contributions to Roth IRAs are not tax deductible. But withdrawals from Roth IRAs are tax-free and penalty-free if you are at least 59 1/2 and wait five or more tax years to make your first withdrawal.

Before you rush out and open a Roth IRA, there is one catch to consider: Your yearly Roth IRA contribution cannot exceed your annual earned income, a rule that often comes into play for retirees.

If, for example, your earned income is $2,700 in 2004, you cannot contribute more than $2,700 to an existing or newly opened Roth IRA for 2004, said Dianne Besunder, a spokeswoman for the Internal Revenue Service in New York. The IRS defines earned income as salary, wages, commissions and self-employment income.

What does not qualify as earned income? The list is quite long.

Interest and dividend income from stocks, bonds, mutual funds and bank accounts; Social Security income and income from a corporate or government pension; withdrawals from regular IRAs, annuities or employer-sponsored retirement plans; income earned from many (but not all) limited partnerships; rental income earned from real estate holdings, and compensation payments postponed from previous years.

Roth IRA holders also should keep an eye on the five-year rule that governs tax-free withdrawals.

If, for example, you open a Roth IRA at any time in 2004 (from Jan. 1 through Dec. 31, 2004), you cannot make tax-free withdrawals until early January 2009.

There's one exception: If your original investment declines in value, you can completely liquidate your Roth IRA (no matter how new the account might be) and not pay a tax or penalty on the withdrawal, Besunder said. This rule does not apply to Roth IRAs created through conversion from regular IRAs.

The positive side is that if you're older than 59 1/2 and have waited five or more years for the account to ripen, every cent in a Roth IRA (even if a $3,500 investment grows to $1 million in value) can be withdrawn free of taxation. Heirs (spouses, children and others) who inherit Roth IRAs also enjoy tax-free withdrawals on earnings, Besunder said.

Although there are no age limits set for yearly investments in Roth IRAs, contributions to regular IRAs must cease in the year you turn 70 1/2 .

That law, on the surface, sounds easy enough to understand. But in late 2004, this law might be a wee bit confusing for those born in the early 1930s with birthdays in late June or early July.

With possible misunderstandings in mind, let us examine two hypothetical cases to see how this law governing regular IRA contributions really works.

Example A

You were born July 4, 1934. You would therefore turn age 70 1/2 in early January 2005.

In this hypothetical case, if you meet the earned-income requirements, you could contribute up to $3,500 to your regular IRA for the 2004 tax year. But 2004 would be the last year in which you'd be eligible to make a contribution, said Stuart Ritter, a certified financial planner with T. Rowe Price Group Inc., a mutual fund company in Baltimore.

Example B

You were born June 30, 1934. You would subsequently turn 70 1/2 in late December 2004. As a result, you would turn 70 1/2 within the 2004 tax year and thus be disqualified from contributing to your regular IRA this year.

"If you turn 70 1/2 by the end of a given year, even on Dec. 31, then you cannot make an IRA contribution in that same tax year," Ritter said. With regular IRA contributions, tax years usually end by the mid-April federal income tax filing deadline.

For additional details, turn to Page 8 of IRS Publication 590: Individual Retirement Arrangements. You may download a copy of this publication from the www.irs.gov. Many public libraries also carry IRS publications.

Matthew Lubanko is a columnist for The Hartford Courant, a Tribune Publishing newspaper. E-mail him at yourmoney@tribune.com.

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