As their tax-filing deadline approaches, many taxpayers ensure that they contribute to their IRAs so as to receive the related tax benefits. If you are doing so, it is important to ensure you satisfy the contribution eligibility requirements in order to avoid IRS-assessed penalties. Here are some important reminders to help you to meet these requirements.
You must have eligible compensation in order to be eligible to contribute to an IRA. For IRA purposes, eligible compensation includes wages, salaries, tips, commissions received as a percentage of sales, taxable alimony and separate maintenance payment you receive under a decree of divorce or separate maintenance. If you are a sole proprietor or a partner in a partnership, your compensation is based on your net earnings from your trade or business, reduced by contributions to any employer-sponsored plan that you adopt and any deduction allowed for 50% of your self-employment taxes.
Amounts you receive as interest, dividends, pension, annuity, earnings and profits from property investments, and any amount you exclude from your income are not considered eligible compensation for IRA purposes.
Tip: If you do not have eligible compensation, and you are married, you may be able to use your spouse's compensation as a basis for making a contribution to your own IRA, providing you file a joint tax return.
You may contribute up to $5,500 per year to your IRA for 2018. If you are at least age 50 by the end of the year to which the contribution applies, you may contribute an additional $1,000. This additional amount is referred to as a catch-up contribution.
If your eligible compensation is less than $5,500/$6,500, then you are eligible to contribute only up to the amount you earn for the year.
Adam, a full-time college student, earned $2,000 from his part-time job in 2017. Adam also earned $1,500 in dividends and interest on the investments in his brokerage account. Adam is eligible to contribute $2,000 for 2017, because he received only $2,000 in eligible compensation.
Tip: The funds used for your IRA contribution can come from any legitimate source. For instance, you may use cash you receive as dividend interest, as a gift or from your regular savings for your IRA contribution, providing you received eligible compensation up to the amount you contribute for the year.
You may contribute to your traditional IRA for years before you reach age 70 1/2. Should you contribute to your traditional IRA for the year you reach age 70 1/2 or a later age, the amount will be considered an excess IRA contribution and must be removed from your IRA by October 15 of the following year in order to avoid IRS-assessed penalties.
Eve's date of birth is May 15, 1947. She will turn 70.5 on November 15, 2017. Because she will be age 70.5 in 2017, she is not eligible to contribute to her Traditional IRA for 2017.
There is no age limit for Roth IRA contributions.
Tax-filing extensions do not apply to your IRA contributions, except for SEP-IRA contributions. This means that your contributions must be deposited by your tax filing due date, which is usually April 15. Similar to your tax return, a postmark date is considered timely; therefore, if you send your contribution in the mail by April 15, you will have met the deadline, even if your financial institution receives the contribution after April 15.
With SEP-IRA, if you applied for an extension for filing your taxes, you have until the end of the extension period to make your contribution, regardless of when you actually file the tax return.
If you are a member of the armed forces who served in a combat zone or provided qualifying service outside of a combat zone, you receive an automatic extension for making your IRA contribution. The extension is usually 180 days after one of the following:
- The last day you serve in a combat zone or complete your qualifying service outside a combat zone.
- The last day you serve in a contingency operation.
- The last day of any continuous qualified hospitalization for injury from service in either of the above.
Make sure your financial institution knows the year to which your contribution applies and ask about their documentation requirements for contributions made during your extension period.
Tip: If you deliver your IRA contribution from January 1 to April 15, be sure to let your financial institution know the year to which the contribution must be applied. Writing the tax year in the memo field of your check should be sufficient. Failure to provide this information could result in the amount being applied to the wrong tax year.
The Bottom Line
Check to make sure you meet the eligibility requirements and that you received eligible compensation for the year before you make your IRA contribution. To be sure that your contribution was deposited for the right tax year, check your account statement for the month the amount is deposited. Financial institutions are more likely to correct processing errors if the errors are detected early. And most importantly, check with your tax and financial professional for assistance with determining whether contributing to your IRA is a good financial decision for you.