Roth IRA accounts are tax-advantaged retirement accounts. A Roth IRA account is funded with money that has already been taxed, so your contributions are not taxed when withdrawn. You may also be able to withdraw any earnings in your account without paying taxes, if the withdrawals meet certain specific criteria.
Benefits of Roth IRA Accounts
Investment income and growth inside a Roth IRA account are not taxed while being earned. This system is similar to those found in other retirement savings plans. You do not have to report the interest or earnings on your tax return before retirement and starting to withdraw funds. As with some other types of plans, there are penalties for early withdrawals in some cases.
Note: You can withdraw your money from a Roth IRA account completely tax-free after retirement. You have already paid taxes on your contributions at the time you earned the income that you invested. You will not pay taxes on your earnings inside a Roth IRA, as long as the withdrawal is a qualified withdrawal.
You will not receive a tax deduction for the contributions you make to a Roth IRA account at the time you make them, as is the case with a traditional IRA account. This provision allows you to withdraw funds from your account without paying taxes upon retirement. The income earned from your contributions is also generally not taxed.
Tax-Free Withdrawal Rules for Roth IRA Accounts
Withdrawals from a Roth IRA account will be completely tax-free, provided that:
- You withdraw after five years from the date of your first contribution to the Roth IRA account, and after you have reached age 59 and a half or become disabled, or
- The withdrawal is paid to a beneficiary after your death, or
- You use the funds to buy a home for the first time.
These criteria make a withdrawal from a Roth IRA “a qualified withdrawal” for tax-free treatment. Otherwise, early withdrawals from a Roth IRA are subject to a federal tax penalty of 10%. Any earnings withdrawn will be subject to tax.
Tax Treatment of Non-Qualified Withdrawals
Withdrawals from Roth IRA accounts that do not meet the criteria for qualified withdrawals are partially taxable. Your original contributions to the Roth IRA account are returned to you tax-free, but any earnings and growth will be fully taxable.
Note: The taxable portion of a non-qualified withdrawal is also subject to a 10% early withdrawal penalty.
How Much Can You Contribute?
The maximum amount you can contribute to a Roth IRA account in 2022 is $6,000 ($6,500 in 2023). Those over age 50 can contribute an additional $1,000 per year as a catch-up contribution. Unlike a traditional IRA account, you can continue to contribute to a Roth IRA account after age 70 and a half or age 72. The exact age at which you can contribute to a traditional IRA account depends on your birth year.
The limits apply collectively to both Roth IRA accounts and traditional IRA accounts. You can contribute to both in the same year, but the total combined contributions cannot exceed the maximum contribution limit of $6,000 or $7,000 ($6,500 and $7,500 respectively in 2023).
Note: You must rectify the issue by making a withdrawal before your tax return due date if you exceed the limit and wish to avoid paying a penalty.
Contribution Limits Based on Income
There are some income restrictions for Roth IRA accounts. Your contribution limit may be reduced or even completely eliminated, depending on your income for the year.
The limit
Earned Income
You can contribute the maximum or your earned income for the year, whichever is less. For scheduling purposes, earned income consists of wages reported on a W-2 form, self-employment income from work or farming, and alimony.
You can only contribute $5,000 to a Roth IRA, even though the maximum is $6,000, if your income from all these sources is only $5,000. However, you can contribute the maximum of $6,000 if your income is $6,001 or more, because your earnings exceed the contribution limit.
Adjusted Gross Income Limit
The second limit applies to taxpayers with higher incomes. It is based on the taxpayer’s adjusted gross income for the year. This limit determines the amount of income that can be contributed to a Roth IRA.
| Filing Status | Adjusted Income for 2022 | Contribution Limit for 2022 | Adjusted Income for 2023 | Contribution Limit for 2023 |
|---|---|---|---|---|
| Married Filing Jointly or Qualifying Widow(er) | Less than $204,000 | Up to Maximum | Less than $218,000 | Up to Maximum |
| Married Filing Jointly or Qualifying Widow(er) | More than $204,000 but less than $214,000 | Reduced Amount | More than $218,000 but less than $228,000 | Reduced Amount |
| Married Filing Jointly or Qualifying Widow(er) | More than $214,000 | Zero | More than $228,000 | Zero |
| Married Filing Separately and Lived with Spouse at Any Time During the Year | Less than $10,000 | Reduced Amount | Less than $10,000 | Reduced Amount |
| Married Filing Separately and Lived with Spouse at Any Time During the Year | More than $10,000 | Zero | More than $10,000 | Zero |
| Single, Head of Household, or Married Filing Separately and Not Lived with Spouse at Any Time During the Year | Less than $129,000 | Up to Maximum | Less than $138,000 | Up to Maximum |
| Single, Head of Household, or Married Filing Separately and Not Lived with Spouse at Any Time During the Year | More than $129,000 but less than $144,000 | Reduced Amount | More than $138,000 but less than $153,000 | Reduced Amount |
| Single, Head of Household, or Married Filing Separately and Not Lived with Spouse at Any Time During the Year | More than $144,000 | Zero | More than $153,000 | Zero |
You can contribute the full maximum contribution amount to a Roth IRA if your adjusted income is within the maximum limits shown above. Your contributions to a Roth IRA phase out gradually if your adjusted income is between the displayed maximum and the displayed limit. You will not be eligible to contribute to a Roth IRA at all that year if your adjusted income exceeds the displayed maximum.
There is an exception to the $10,000 rule for taxpayers who file separately if they did not live with their spouse at any time during the tax year. Spouses can use the individual taxpayer income limits if they lived apart from each other for the entire tax year.
Note: Check with a tax professional if you think you are close to the limit to ensure your adjusted income.
Most taxpayers will find that their adjusted income is their adjusted gross income (AGI) plus any tax-exempt interest income they claim and any above-the-line deductions they take to arrive at AGIs
Source: https://www.thebalancemoney.com/roth-individual-retirement-accounts-3193219
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