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Finding the Funds…

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Grace S. Yung

…to make your IRA contribution
by Grace S. Yung

Today, with every dollar that is earned seemingly already spoken for, it may be difficult to find the funds to contribute to an IRA (Individual Retirement Account). Yet, with the new fiscal cliff rules, investing in tax-advantaged accounts may have even more benefits than originally thought—especially given the slight rise in payroll tax that was seen across the board.

In terms of finding the needed funds, one option could be your tax refund from Uncle Sam—provided that you receive one. Depending on how early you file (and your eligibility for a refund), you could have funds early enough to make a 2013 and a 2012 IRA contribution. This is because you can make your 2012 IRA contribution as late as April 15, 2013.

You could also obtain IRA contribution funds by having less tax withheld from your paycheck, resulting in a higher amount of net income. Same-sex couples may have somewhat of a disadvantage in this area, though. For example, because a working individual cannot claim their same-sex stay-at-home partner as a dependent, they will likely receive less of a tax deduction than a heterosexual married person would. The information that is included on your W-4 form determines how much in federal income tax is withheld from your pay.

If you are eligible to claim additional allowances, you could also be in a position to pay less in federal income tax. If this is the case, though, you must also discipline yourself to set those extra funds aside for investment rather than spending them in other areas.

Comparing Traditional and Roth IRAs

By definition, an Individual Retirement Account (IRA) is a type of retirement savings account for individuals that permits the account owner to set aside money each year with the earnings tax deferred.

Traditional IRAs may allow a tax deduction on some or all of the funds that are deposited in a given year. The funds within a Traditional IRA grow on a tax-deferred basis, and are only taxed upon withdrawal.

Upon reaching age 701/2, investors are required to begin making withdrawals from their Traditional IRA accounts, in conjunction with the Required Minimum Distribution, or RMD, rules.

Roth IRAs were established in 1997. Contributions to these types of IRAs are made with dollars that have already been taxed. However, upon their withdrawal, the funds in a Roth IRA—including the gain—may be taken tax-free. Unlike a Traditional IRA, investors may continue contributing to a Roth IRA even after they have reached age 701/2. In addition, Roth IRAs have no age at which a minimum amount of withdrawal must be made.

The annual IRA contribution limit for 2012 is $5,000 for those who are age 49 and younger. Investors who are age 50 and over are allowed to make an additional $1,000 “catch up” contribution, giving them a total annual contribution limit for 2012 of $6,000. For 2013, these limits have been raised to $5,500 and $6,500, respectively.

Who Can Contribute to an IRA?

Your eligibility to contribute to an IRA will actually depend in large part on the type of IRA that you are considering. For example, nearly anyone is allowed to contribute to a Traditional IRA, provided that they receive earned income and are under the age of 701/2. To the extent that those contributions are deductible, though, depends on whether you meet certain qualifications. These factors include 1) participation in a employer-sponsored retirement plan and 2) amount of annual income.

For those who have no retirement savings plan through an employer, the full annual contribution can be not only deposited to a Traditional IRA, but can also be deducted from income taxes.

If, however, you have an employer-sponsored retirement plan, your annual Traditional IRA contribution is fully deductible only if your annual adjusted gross income is below $56,000 (as a single tax filer). Likewise, for single individuals who have a retirement plan at work, the Traditional IRA contribution deduction is phased out entirely when adjusted gross income exceeds $109,000.

Those who wish to contribute to a Roth IRA will not be able to deduct any amount of contribution, as all Roth contributions are done with after-tax dollars. The tradeoff here is that withdrawals come out tax-free.

There are certain income requirements that also must be met in order to qualify to have a Roth IRA account. For 2012, your modified adjusted gross income must be $125,000 or below in order to make the full allowable annual IRA contribution, if you will be filing as a single taxpayer. Those who earn between $105,000 and $125,000 may be able to make a partial Roth IRA contribution.

In many cases, individuals are eligible to contribute to both a Roth and a Traditional IRA—as long as the total amount of money that is deposited does not exceed the annual contribution limit. Also, a married person can set up an account known as a “spousal” IRA in the name of his or her spouse who has little or no compensation of their own. However, because couples who take advantage of spousal IRA accounts must be legally married (according to the federal definition) and file their taxes jointly, this type of IRA is not an option for same-sex couples.

While there are numerous advantages to investing in an Individual Retirement Account, it is important to keep in mind that all situations and investment goals are unique for each investor. Therefore, it is essential that all planning be conducted using qualified professionals who are knowledgeable and well versed in the areas of tax and financial matters.

Grace S. Yung, CFP, is a certified financial planner practitioner with experience in helping domestic partners plan their finances since 1994. She is a principal at Midtown Financial LLC in Houston.

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See other MoneySmart columns:

What’s Different for 2013? (January 2013 OutSmart)
Considerations for Texas and your future investments.

LGBT Partners… (December 2012 OutSmart)
Working around the denial of your government benefits

Future Tax Rules Can Further Penalize LGBT Investors (November 2012 OutSmart)
But there is still time to act

Protecting your Wallet and your Heart (October 2012 OutSmart)
How and when to keep assets separate—even when you’re madly in love

Domestic Partner Tax Deductions in Home Ownership (September 2012 OutSmart)
With today’s historically low interest rates, it’s certainly a great time to either purchase or refinance a home.

Dying Intestate (August 2012 OutSmart)
Could you be leaving the state in charge of distributing your assets?

Protecting the Things that Matter (July 2012  OutSmart)
How those in the LGBT community can use life insurance planning strategies

When ‘I Do’ Becomes ‘I Don’t Anymore’ (June 2012 OutSmart) 
Ensuring both partners’ fair share with a Domestic Partnership Agreement

Retirement (May 2012 OutSmart)
Using annuities can provide lasting income for both domestic partners: When depending on a partner’s retirement income, annuities can offer the perfect solution

Financial and Tax Planning Issues for Domestic Partners (April 2012 OutSmart)
Is Uncle Sam getting a bigger chunk of your income and wealth?

The Real Cost of Long-term Care (February 2012 OutSmart)
How LGBT caregivers are paying the price

Gay Money Matters (part 1) (February 2010 OutSmart)
Domestic Partners: Estate and Tax Planning

Gay Money Matters (part 2) (February 2010 OutSmart)
Protecting your assets . . . even when the rules don’t

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Grace S. Yung

Grace S. Yung, CFP, is a certified financial planner practitioner with experience in helping domestic partners plan their finances since 1994. She is a principal at Midtown Financial LLC in Houston and was recognized as a “Five-Star Wealth Manager” in the September 2017 issue of Texas Monthly.
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