Taxes and Retirement – Keep More of Your Money
Taxes play a significant role in retirement plans as well as in the life of leisure these plans afford individuals when it comes time to retiring. This much is known to tax professions like IRS enrolled agents and CPAs, and any other registered tax agent, who advise taxpayers on the wealth management that make retirement possible. The subject of taxes and retirement is a popular one in tax CPE — the continuing education tax courses tax professionals are required to take to maintain their credentials — because of its centrality to the majority of taxpayers.
Come tax time most taxpayers will be confronted with one issue or another pertaining to retirement, whether they are presently working or have living it up as snowbird in Florida. Below is a list of some of the more common considerations that fall into this category.
Take Credit for Saving –Retirement Savings Contributions Credit
Most enrolled agents and CPAs are hired by people looking for ways to save money on their axes? One such method might be qualifying for the Retirement Savings Contributions Credit – also known as the Saver’s Credit. Requirements include:
Meeting income and eligibility requirements
Contributing to a traditional or Roth IRA, a 401(k), 403(b), governmental 457, SARSEP or SIMPLE IRA plan
The credit is equal to 50 percent, 20 percent or 10 percent of a taxpayer’s contributions up to $2,000 ($4,000 if married filing jointly) depending on the adjusted gross income reported on the 2010 Form 1040 or 1040A.
Use IRAs to Save for Retirement
This tax season taxpayers have been given until April 18, 2011 to contribute to traditional and Roth IRAs for 2010.
For 2010 and 2011, taxpayers can contribute to a traditional or Roth IRA the smaller of:
$5,000 ($6,000 if age is 50 or older), or
taxable compensation for the year
Joining A Retirement Plan
There are innumerable advantages of participating in a retirement plan, and tax professionals should strongly communicate them to clients. For example, a taxpayer can:
decrease taxable income by making pre-tax salary deferred contributions if allowed by the plan; and
increase overall retirement savings
Participating in an Employer’s Retirement Plan
Tax professionals should strongly urge clients to enroll in their employees’ retirement plans as soon as they are able. The majority of retirement plans have quarterly or semi-annual entry dates
Review Retirement Plan Contributions
Tax professional should encourage clients to periodically review the amount that they are contributing to the plan. The maximum annual salary deferral contributions allowed for 2010 and for 2011 are as follows:
$16,500 to 401(k) or 403(b) plans
$11,500 to SIMPLE plans
For taxpayers who are 50 or older by the end of the year, retirement plans may allow them to make additional catch-up contributions. For 2010 and 2011, qualifying individual were able to make catch-up contributions of:
$5,500 to 401(k) or 403(b) plans
$2,500 to SIMPLE plans
Important Caveats to Consider
However, other factors may limit or eliminate a taxpayer’s ability to contribute to an IRA.
For example, if age 70 1/2 or older, a taxpayer cannot make regular contributions to a traditional IRA for the year. Modified adjusted gross income may also impact the amount one can contribute to IRAs. Additionally, for 2010 and 2011, if a taxpayer files a joint return and has compensation less than that of a spouse, the most that can be contributed yearly to an IRA for the is the smaller of:
$5,000 ($6,000 if age 50 or older), or taxpayer and taxpayer spouse’s total compensation included in the yearly gross income, reduced by the amount of the spouse’s contribution to traditional and Roth IRAs for the year
The amount of traditional IRA contributions that taxpayers can deduct depends on whether they or their spouses were covered for any part of the year by an employer retirement plan, their income, their tax filing status and on any social security benefits that they received.
Withdrawing money from your 401(k) plan?
A 401(k) is a long-term plan that helps people save money for retirement. Although it may be tempting or even unavoidable for someone to withdraw money from the plan before retirement, there are consequences. Most notably, tax consequences of an early distribution. Generally, taxpayers must pay income tax on most distributions from a 401(k) plan. However, they opt to take an early distribution, they may also have to pay an additional 10 percent tax unless they:
are over 591?
2 years of age,
or qualify for another exception to the additional10 percent tax
Many 401(k) plans do allow early withdrawal distributions without a penalty for certain events that cause taxpayers, their spouses or their dependents financial hardship. For example, some 401(k) plans may allow an early distribution to pay for medical or funeral expenses, tuition and educational expenses, or the purchase of a primary residence.
Tax Implications of Early Distribution from Retirement Plans
Some taxpayers may have needed to take an early distribution from their retirement plan last year. Under certain circumstances, there are certain tax implications for tapping into a retirement fund. Below are some of the more important facts about early distributions that tax professionals should understand and communicate to clients in this situation:
Payments receive from an IRA before a taxpayer reaches age 59 1/2 are generally considered early or premature distributions.
Early distributions are typically subject to an additional 10 percent tax.
Early distributions must also be reported to the IRS.
Distributions rolled over to another IRA or qualified retirement plan are not subject to the additional 10 percent tax, but the rollover must have been completed within 60 days after the day the distribution was received.
The amount rolled over is generally taxed when the new plan makes a distribution to the taxpayer or the taxpayer’s beneficiary.
If nondeductible contributions were made to an IRA and a taxpayer later takes a early distributions from an IRA, the portion of the distribution attributable to those nondeductible contributions is not taxed.
If taxpayers received an early distribution from a Roth IRA, the distribution attributable to their prior contributions is not taxed.
If they received a distribution from any other qualified retirement plan, generally the entire distribution is taxable unless they made after-tax employee contributions to the plan.
There are a number of exceptions to the additional 10 percent early distribution tax, such as when the distributions are used for the purchase of a first home, for certain medical or educational expenses, or if taxpayers are disabled.
IRS Circular 230 Disclosure
Pursuant to the requirements of the Internal Revenue Service Circular 230, we inform you that, to the extent any advice relating to a Federal tax issue is contained in this communication, including in any attachments, it was not written or intended to be used, and cannot be used, for the purpose of (a) avoiding any tax related penalties that may be imposed on you or any other person under the Internal Revenue Code, or (b) promoting, marketing or recommending to another person any transaction or matter addressed in this communication.