Series 66

AAA

Special Issues for Retirement Plans - Traditional IRA

Any employed person is eligible to contribute to a Traditional IRA, but not all such contributions are deductible from income taxes. Deductibility is a factor of income as well as coverage under an employer retirement plan. Such deductions are subject to the following eligibility rules:

  • If a person is not currently covered by a retirement plan at work, IRA contributions are deductible in full.
  • If a person is currently covered by a retirement plan at work, IRA contributions are deductible only if income is less than the limits shown below:
YEAR Single Return Joint Return
2004 $45,000-$55,000 $65,000-$75,000
2005 $50,000-$60,000 $70,000-$80,000
2006 $50,000-$60,000 $75,000-$85,000
2007 $50,000-$60,000 $80,000-$100,000
  • If income falls between the limits shown above, the contribution will be partially deductible - the deduction is "phased out" in proportion to the amount by which the income exceeds the lower limit in the range.
  • For a married couple, if only one spouse is covered by a pension plan, a different phase-out rule applies:
    • If combined income is $150,000 or less, the contribution for the non-covered spouse is fully deductible.
    • If combined income is between $150,000 and $160,000, a proportional phase-out applies.
    • If combined income is $160,000 or higher, no deduction applies.
    • These rules apply only to the non-covered spouse; contributions by the covered spouse are not deductible.

Exam Tips and Tricks
On the exam, you will not be tested on the actual dollar values for the phase-out. However, you will need to know that clients with high incomes are subject to different phase-out rules.

The following information applies to Traditional IRAs only:

  • Earnings are tax-deferred until withdrawn.
  • If deductible contributions are made, 100% of withdrawals are subject to taxation at ordinary income rates.
  • If non-deductible contributions are made, a portion of each withdrawal is not taxable.
  • Withdrawals made prior to age 59 ½ are subject to a 10% penalty, unless one of the following exceptions applies:
    • Death
    • Disability
    • Eligible educational expenses
    • First-time home-buying expenses (up to $10,000)
    • Distributions made over the life expectancy of the IRA owner
  • Contributions may not be made after the IRA owner turns age 70 ½ - even if he or she is still employed.
  • Distributions made over the life expectancy of the IRA owner must begin no later than April 1 of the year following the year in which the owner turns age 70 ½.
  • If a person fails to withdraw any amount that should have been distributed under these mandatory minimum requirements, a 50% tax penalty applies to the amount not distributed.

For more on how a traditional IRA works, how to set one up and even how to withdraw from it, review the tutorial Traditional IRAs.

Roth IRAs
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