A traditional individual retirement account (IRA), also known as a regular IRA, is a self-directed, tax-advantaged retirement savings account. This type of IRA allows you to make contributions of disposable income to save for your retirement. There are two advantages to a traditional IRA: you can deduct contributions to a it from your taxable income, and you are not taxed on interest or capital gains generated by the assets in your account.
With a traditional IRA, you are allowed to make contributions of money that is classified as compensation. Compensation includes money from wages or salaries, alimony, and nontaxable combat pay. Compensation does not include earnings from property, pensions, income from interest or dividends, and deferred compensation.
A traditional IRA is held in an account at a bank, credit union, life insurance company, or securities firm. This type of account can consist of funds in an IRA savings account, certificates of deposit, stocks, and mutual funds. When you request a distribution of funds from, the federal government may tax the distributions. Roth IRAs differ from traditional IRAs in that contributions are taxable and distributions are nontaxable.
To establish a traditional IRA, you must be under the age of 70 ½. In addition, you or your spouse must have a taxable income. This means you must meet the Internal Revenue Service’s earned income requirement (EIC) for your particular tax bracket, such as “single, head of household.”
Your income, tax bracket, and whether you are covered by a retirement plan at work affects the maximum amount of your deductible contributions. The maximum amount of deductible contributions can also change from year to year. The maximum amount was raised in 2010 and again in 2011. In order to determine the maximum amount of your deductible contributions, consult an IRS chart showing the effect of modified Adjusted Gross Income (AGI) on Deduction.
Age factors into the maximum contribution for this kind of IRA. An individual who is under 50 years of age at the end of 2011 can make a maximum contribution of the smaller of these two amounts: $5,000 or the amount of their annual taxable compensation. An individual who is 50 years of age or older before the end of 2011 can make a maximum contribution of the smaller of these two amounts: $6,000 or the amount of their annual taxable compensation. The maximum contribution for 2012 is not likely to vary much from these amounts. The maximum contribution for 2012 may be adjusted for inflation in $500 increments.
An individual can contribute to a 2011 traditional IRA from January 1, 2011 through the Federal tax filing deadline of April 17, 2012. Contributions for 2012 can take place from starting January 1, 2012 until April 15, 2013. An individual cannot contribute to it in the year that they reach age 70 ½ or any year thereafter.
If you are interested in a traditional IRA, talk to a representative from a financial institution about your options.