There is though, another type of IRA that has distinct differences from a traditional IRA -- it is known as a Roth IRA. There are two main differences between a Roth IRA and a traditional IRA.
The first difference is that contributions to a Roth IRA are never deductible on your federal income tax return. Contributions though, to a traditional IRA may be deductible, depending upon your individual circumstances. The non-deduction factor obviously is a disadvantage for a Roth IRA.
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Roth IRA Income Limits For 2009-2010
The Roth IRA advantage, however, is that any distributions including earnings can be received tax-free by you if certain conditions are met. These conditions include:
■ The Roth IRA must meet a five-year aging requirement, and
■ The distribution must be made when your age is at least
59 ½ ; or made because you are disabled; or made because of your death, or
■ The distribution qualifies under a first time home purchase.
In a traditional IRA, the earnings are only tax-deferred which means you may pay taxes when the earnings are distributed to you. Also, if your traditional IRA contribution was deducted on your federal income tax return, you will be required to pay income taxes when you later withdraw from your traditional IRA.
Roth IRA
Most people when they consider an Individual Retirement Account (IRA) are thinking about what is known as a traditional IRA.
As with a traditional IRA, there are income limits for contributions to a Roth IRA. Income for these purposes is defined as Modified Adjusted Gross Income. The income limits for a 2009 Roth IRA are as follows:
■ If you are married and filing a joint tax return, your Roth IRA contribution is reduced if your income is at least $166,000. If your income is at least $176,000, you cannot make a Roth IRA contribution.
■ If you are single or claim head of household status, your Roth IRA contribution is reduced if your income is at least $105,000. If your income is at least $120,000, you cannot make a Roth IRA contribution.
The Roth IRA income limits for 2010 have now been released and the above 2009 limit of $166,000 has been increased to $167,000 for joint filers in 2010. The 2010 limits for single and head of household filers remain unchanged from 2009.
Rollover your 401k into a Roth IRA
Beginning in 2008, you are allowed to rollover a distribution from your 401k into a Roth IRA. A rollover to your Roth IRA may also be used for a distribution from other qualified employee retirement plans; 403b tax sheltered annuity plans (TSA); annuity plans; and government deferred compensation plans. You can only make these rollovers into your Roth IRA if your Modified Adjusted Gross Income is $100,000 or less and you are not a married individual filing a separate income tax return.
These rollovers, however, are subject to income tax in the year of the distribution. You must pay income taxes on any part of the distribution that would have been subject to income taxes if you had not made the rollover to your Roth IRA. Your contributions that were previously subject to income tax -- after tax contributions -- are now the tax-free portion of your rollover to your Roth IRA. Your pre-tax contributions and any employer contributions plus any earnings will comprise the taxable portion of the rollover to your Roth IRA.
