Series 62

Retirement Plans - Individual Plans

Individuals may set up a retirement plan for themselves that are qualified and allow contributions to the plan to be made with pre-tax dollars. Individuals may also purchase investment products such as annuities that allow their money to grow tax deferred. The money used to purchase an annuity has already been taxed making an annuity a non- qualified product.

Individual Retirement Accounts (IRAs)

All individuals with earned income may establish an IRA for themselves. Contributions to traditional IRA’s may or may not be tax deductible depending on the individual’s level of adjusted gross income and whether or not the individual is eligible to participate in an employer sponsored plan. Individuals who do not qualify to participate in an employer sponsored plan, may deduct their IRA contributions regardless of their income level. The level of adjusted gross income that allows an investor to deduct their IRA contributions

has been increasing since 1998. These tax law changes occur too frequently to make them a practical test question. Our review of IRA’s will focus on the four main types, which are:

  • Traditional
  • Roth
  • SEP
  • Educational
Traditional IRA

A traditional IRA allows an individual to contribute a maximum of 100% of earned income or $5,500 per year or up to $11,000 per couple. If only one spouse works, the working spouse may contribute $5,500 to an IRA for themselves and $5,500 to a separate IRA for their spouse, under the nonworking spousal option. Investors over fifty may contribute up to $6,500 of earned income to their IRA. Regardless of whether the IRA contribution was made with pretax or after-tax dollars, the money is allowed to grow tax deferred. All withdrawals from an IRA are taxed as ordinary income regardless of how the growth was generated in the account. Withdrawals from an IRA prior to age

591/2 are subject to a 10% penalty tax as well as ordinary income taxes. The 10% penalty will be waived for first time homebuyers or educational expenses for the taxpayer’s child, grandchildren, or spouse. The 10% penalty will also be waived if the payments are part of a series of substantially equal payments. Withdrawals from an IRA must begin by April 1st of the year following the year in which the taxpayer reaches 701/2. If an individual fails to make withdrawals that are sufficient in size and frequency, the individual will be subject to a 50% penalty on the insufficient amount. An individual who makes a contribution to an IRA that exceeds 100% of earned income or the annual limit, whichever is less, will be subject to a penalty of 6% per year on the excess amount for as long as the excess contribution remains in the account.

Roth IRA

A Roth IRA is a nonqualified account. All contributions made to a Roth IRA, are made with after-tax dollars. The same contribution limits apply for Roth IRA’s. An individual may contribute the lesser of 100% of earned income to a maximum of $5,500 per person or $11,000 per couple. Any contribution made to a Roth IRA reduces the amount that may be deposited in a traditional IRA and vice versa. All contributions deposited in a Roth IRA are allowed to grow tax deferred and all of the growth may be taken out of the account tax-free provided that the individual has reached age 591/2, and the assets have been in the account for at least five years. A 10% penalty tax will be charged on any withdrawal of earnings prior to age 591/2, unless the owner is purchasing a home, has become disabled, or has died. There are no requirements for an individual to take distributions from a Roth IRA by a certain age.

TAKE NOTE!

Individuals and couples who are eligible to open a Roth IRA may convert their traditional IRA to a Roth IRA. The investor will have to pay income taxes on the amount converted, but will not be subject to the 10% penalty.

Simplified Employee Pension IRA / SEP IRA

A SEP IRA is used by small corporations and self-employed individuals to plan for retirement. A SEP IRA is attractive to small employers because it allows them to set up a retirement plan for their employee’s rather quickly and inexpensively. The contribution limit for a SEP IRA far exceeds that of traditional IRA’s. The contribution limit is the lesser of 25% of the employee’s compensation or $51,000 per year. Should the employee wish to make their annual IRA contribution to their SEP IRA, they may do so or they may make their standard contribution to a traditional or Roth IRA.


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