Should I Contribute to an IRA? Key Factors to Consider
Understand key factors like eligibility, tax benefits, and withdrawal rules to determine if contributing to an IRA aligns with your financial goals.
Saving for retirement is one of the most important financial decisions you can make, and an Individual Retirement Account (IRA) offers tax advantages that help grow savings. Before contributing, it’s essential to understand eligibility, tax benefits, and withdrawal rules.
Basic Eligibility Criteria
To contribute to an IRA, you must have earned income—wages, salaries, tips, bonuses, or self-employment earnings. Passive income, such as rental income or dividends, does not qualify. Retirees or those relying solely on investments cannot contribute unless they have other earned income.
For married couples, a spousal IRA allows a non-working spouse to contribute if the working spouse has sufficient earnings. This benefits stay-at-home parents or those on a career break, enabling them to continue saving for retirement.
The SECURE Act of 2019 removed the age limit for traditional IRA contributions, allowing individuals of any age to contribute as long as they have earned income.
Annual Contribution Limits
The IRS sets IRA contribution limits, adjusting them periodically for inflation. In 2024, individuals under 50 can contribute up to $7,000, while those 50 and older can make an additional $1,000 catch-up contribution, bringing their total to $8,000. These limits apply across all traditional and Roth IRAs combined.
Contributions cannot exceed earned income for the year. For example, if someone earns $5,000 in part-time wages, their maximum contribution is $5,000, even though the IRS allows up to $7,000.
The contribution deadline aligns with the tax filing deadline, typically April 15 of the following year. Unlike employer-sponsored plans, IRA contributions can be made in a lump sum or spread throughout the year.
Tax Deductibility Factors
The deductibility of traditional IRA contributions depends on whether the account holder or their spouse participates in an employer-sponsored retirement plan. If neither does, contributions are fully deductible regardless of income.
For those covered by a workplace plan, deductibility is subject to income limits. In 2024, single filers with a modified adjusted gross income (MAGI) below $77,000 can deduct contributions fully, with phaseouts occurring between $77,000 and $87,000. For married couples where the contributing spouse is covered, deductions phase out between $123,000 and $143,000. If only the non-contributing spouse is covered, the phaseout range is $230,000 to $240,000.
Even if contributions are not deductible, traditional IRAs still offer tax-deferred growth. Non-deductible contributions require filing Form 8606 with the IRS to track after-tax contributions, ensuring only investment gains are taxed upon withdrawal.
Income Phaseouts
Income limits affect Roth IRA eligibility and traditional IRA deductibility. In 2024, single filers earning below $146,000 can contribute the full amount to a Roth IRA, with eligibility phasing out between $146,000 and $161,000. Those earning above $161,000 cannot contribute directly. Married couples face a phaseout range of $230,000 to $240,000.
Traditional IRAs have no income limits for contributions, but deductibility is restricted if the taxpayer or spouse participates in a workplace retirement plan. These phaseouts prevent excessive tax deferral for higher-income earners with employer-sponsored plans.
Rules for Early Withdrawals
Withdrawing funds from an IRA before age 59½ generally results in a 10% early withdrawal penalty, in addition to regular income tax. However, certain exceptions allow penalty-free withdrawals, including qualified higher education expenses, up to $10,000 for a first-time home purchase, and unreimbursed medical expenses exceeding 7.5% of adjusted gross income. Withdrawals due to disability, health insurance premiums during unemployment, and qualified reservist distributions may also avoid penalties. While these exceptions eliminate the 10% penalty, regular income tax still applies to traditional IRA withdrawals.
Required Minimum Distributions
Once an individual reaches a certain age, they must begin taking required minimum distributions (RMDs) from a traditional IRA. The SECURE 2.0 Act raised the RMD age to 73 as of 2023, with a further increase to 75 scheduled for 2033. These withdrawals ensure tax-deferred savings are eventually taxed.
The required amount is based on the account balance and life expectancy, using IRS-provided tables. Failing to take an RMD results in a penalty—previously 50% of the missed amount but now reduced to 25%. If corrected within a specified timeframe, the penalty drops to 10%.
Roth IRAs do not have RMDs during the account holder’s lifetime, making them an attractive option for maximizing tax-free growth or leaving assets to heirs.