Utilizing the Increased IRA Contribution Limits to Reduce Tax

The IRS has finally increased the annual contribution limits for IRAs. Since 2013, individuals could make contributions to traditional and roth IRA accounts up to $5,500 (or $6,500 if over the age of 50 using the catch-up contribution provision). As a result of the increase, the allowable contribution amount will be $6,000 beginning in 2019, or $7,000 for those over the age of 50. Depending on their income tax situation, an individual could receive a deduction to their adjusted gross income (AGI) on their tax return for all or part of the contribution made to a traditional IRA in a particular year.

The tax code generally allows contributions to a traditional IRA plan in an amount equal to the lesser of the annual contribution limit or 100% of the individual’s taxable compensation. If a taxpayer is married, each spouse can make a contribution up to the annual contribution limits provided that the compensation of both spouses combined is at least equal to the amount contributed. Once an individual reaches age 70 ½, contributions to a traditional IRA, whether deductible or not, are no longer permitted. The deductibility of traditional IRA contributions depends on several factors; first, whether or not the individual has a retirement plan with their employer, and second, the filing status of the taxpayer.

The chart below summarizes the rules in effect for 2019 if the individual taxpayer has a retirement plan with an employer when determining the contribution deduction limits that will apply.

If the individual does not have a retirement plan with an employer, the chart below summarizes the rules in effect for 2019 when determining the contribution deduction limits that will apply.

In situations where an individual may be unsure of whether or not they qualify, there are planning opportunities to consider. Married individuals should consider making spousal IRA contributions in a year where only one spouse may be working. If the income limits are met, this can double the available deduction to $12,000 (or $14,000 if both spouses are over 50 years old making catch-up contributions). If an individual is self-employed, consider utilizing business expenses and the home-office deduction, if available, to reduce the earned income. In addition, consider other retirement options that may exist for self-employed individuals, which may increase the retirement deduction available. A SEP IRA is a retirement plan commonly used by self-employed individuals which allows for a higher deduction.

For individuals with low income for the year, consider taking advantage of the non-refundable Saver’s Credit. This credit is available to individuals when income is less than $64,000 if married filing joint, $32,000 if single or married filing separately, or $48,000 if filing as head of household, and can be up to 50%, 20% or 10% of the total contribution.

When the deduction is available, an individual should consider making contributions to a traditional IRA. This will allow an individual to both save towards retirement and reduce the amount of tax paid in the year of contribution. As an added benefit, the timeline for making an IRA contribution is the due date of the tax return for the year the contribution will be deducted. This means that the 2019 due date for making a contribution to an IRA is April 15, 2020 when the tax return is due. Planning can be done throughout the year to adjust income to maximize the contribution deduction.

In addition, the ability to analyze the cost benefit of maxing out the deduction exists at the time of filing the tax return. With an overall decrease in tax rates due to the Tax Cuts and Jobs Act (TCJA), and the 10% increase in the IRA contribution limit, this is the perfect time to evaluate ways to make use of this option when planning for retirement and lowering taxes.

Please contact a member of the HBK Tax Advisory Group with any questions.