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IRA
Taxation of IRA Contributions
by InvestorGuide Staff (Write for us!)
(Click on the links within the article to get definition of that word)
The taximplications of IRAs can
be broken down into the following categories: Taxing of deductible and non-deductible contributions
Withdrawals are taxed if the originalcontribution was deductible in the first place. If the contributions were not deductible, then the withdrawals will not be taxed.
Taxes on Excess Contributions
There are limits on annual contributions but a participant may elect to make additional contributions. Those will be taxed at 6% if the money is not removed from the account before the tax filing deadline. To avoid the penalty, the excess money and earnings can be removed from the account prior to the filing date, although the earnings are taxable for that year.
Premature withdrawals
Withdrawals usually start at the age of 59 1/2; otherwise, there is a 10% penalty. However, there are some exceptions to this rule. Penalty-free withdrawals can be made before the retirement age
if the participant qualifies. The qualifications include:
Withdrawal by the beneficiary in case of owner's death or disability.
Withdrawals taken in equal periods determined by the participant's life expectancy or the joint life expectancy of the participant and the beneficiary.
Withdrawals used to pay for medical expenses that excel 7 1/2% of your AGI.
Withdrawals used to pay for medical insurance if the owner has received unemployment for more than 12 weeks.
Withdrawals used to pay for the first home, subject to a $10,000 limit.
Withdrawals used to pay for higher education expenses.
There are three methods for premature withdrawals:Life Expectancy Method
There are IRStables that determine life expectancy of the owner or the joint life expectancies of the owner and a beneficiary. The withdrawal amount is calculated by dividing the balance at the beginning of the year by the factor found in the IRS life expectancy tables. For each year that passes by, the life expectancy factor is reduced by one. Amortization
Method
The life expectancy is determined using the IRS tables mentioned above. The annual withdrawal amount is determined by applying an assumed earnings rate over the life expectancy. Generally, the rate must be within 120% of the applicable federallong-term rate. Once the rate is determined, the withdrawal remains fixed each year. Annuity Factor Method
Similar to the second method, but the withdrawal amounts are calculated using a different set of life expectancy tables than those used by the life insuranceagency, which is the UP-1984 Mortality Table. Regardless of which method is used, the process must continue for a minimum of five years or until age 591/2.
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