IRA Contribution Limits

Jan 11, 2013 by

Broke Uncle SamWhen prioritizing what to do with always scarce surplus cash, I’d generally rank building an emergency fund and paying off high-interest debt ahead of funding an Individual Retirement Account (IRA). But if you’ve got those pieces of your financial puzzle in place, the huge tax benefits of saving for retirement through an IRA account likely make that opportunity the next best use of your “extra” money.

Tax Benefits of IRAs

The two types of IRAs are named Roth and Traditional. And Traditionals come in two flavors: Deductible and non-deductible. All have tax benefits.

Roth IRA contributions are made from your take-home pay so the tax benefit doesn’t happen in the year you make the contribution. However, when you reach your doddering years and begin withdrawing money from your Roth to help finance your slot machine habit, you’ll pay no income tax on these withdrawals. That makes perfect sense for money you contributed since you’ve already paid income tax when you earned it. But you also pay no tax, ever, on the gains your Roth IRA investments have accumulated over the years.

Traditional IRA contributions may be fully or partly deductible from your income in the year you make the contribution, depending on your income and whether you or your spouse also contribute to a workplace retirement plan. In either case, the tax on earnings on investments you make in your Traditional IRA account are postponed: You pay tax when you withdraw earnings.

IRA Contribution Limits

Because it needs your money, the IRS limits annual IRA contributions. But those limits are rising in 2013. Here’s the scoop on contribution limits for both 2012 and 2013:

For 2012, the maximum you can contribute to all of your Traditional and Roth IRAs is the smaller of:
→ $5,000 ($6,000 if you’re age 50 or older), or
→ Your taxable compensation for the year

So if you earned $4,000 in 2012, the most you could contribute to an IRA is $4,000. And notice the limit applies to all of your IRA accounts combined, not to each account individually. In other words, you could contribute $3,000 to a Roth and $2,000 to a Traditional IRA (total of $5,000), but not $5,000 to each.

For 2013, the maximum you can contribute to all of your Traditional and Roth IRAs is the smaller of:
→ $5,500 ($6,500 if you’re age 50 or older), or
→ Your taxable compensation for the year

The 2013 contribution limit has been bumped by $500!

Other IRA Tidbits

  • You can make 2012 tax year contributions to your IRA until April 15, 2013!
  • Your Roth contribution amount could be limited depending on your filing status and income. Click on the year to get details for each: 2012  2013
  • If you’re over age 70½, sorry bub: You can no longer make regular contributions to a Traditional IRA. But you can still sock money into a Roth regardless of your age.
  • Even if your spouse had no earned income, he or she can make an IRA contribution, if you file a joint return.
  • Many people mistakenly think they can’t contribute to an IRA if they participate in a 401(k) or similar retirement plan through their workplaces. Not true! You can contribute to a workplace retirement plan AND a Traditional IRA AND a Roth IRA. But workplace plan participation may limit your Traditional IRA contribution deduction.

IRAs Are Fantastic!

Tax-advantaged accounts like IRAs are the best way to save for retirement. If you can deduct Traditional IRA contributions, every $1,000 you stash costs you only $850 if you’re in the 15% marginal tax bracket. Uncle Sam kicks in the other $150. And imagine living federal income tax-free in retirement: That’s what would happen if all your income came from a fat Roth IRA you were wise enough to start building in your 20s.

What’s Your Plan for 2012 and 2013 IRAs?

Will you be fortunate enough to fully fund an IRA for 2012 and 2013? Or do you have other priorities for your surplus cash just now?

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  1. John S @ Frugal Rules

    Great points! We’re in a slightly different situation being business owners. We were not able to put anything extra away last year as we were just starting and growing our business. Thankfully we can start again this year. We’re going to be funding a SEP IRA, which has different limits and hopefully we can come close to maxing it out.

  2. These are great reasons to have an IRA. If your income is low enough, Uncle Sam will give you a tax credit as well. The Saver’s Tax credit can be a great incentive to open an IRA and reduce your tax burden. Plus it can apply to 401Ks.

    • Thanks for contributing the mention of the Saver’s Tax Credit to the discussion. Nice to see the tax code rewarding frugality for a change!

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