It is tax season and time to decide whether you should make a contribution to your Traditional or Roth IRA. How can you ultimately maximize the benefit of your IRA over the long-term? 

For most, you want to max out your 2020 contributions before the April 15th deadline.*

*UPDATE: The April 15th deadline to file 2020 federal income taxes for individuals has been automatically extended to May 17th, 2021 according to the recent announcement from the Treasury Department and Internal Revenue Service. 
This includes postponement of taxes owed, but does not apply to estimated tax payments (which are still due on April 15th, 2021). 
Virginia, Kansas and Colorado have also extended their deadline, but it’s possible not all states made this change, so it is important to confirm your state’s deadline.

How much can I contribute? 

You can contribute $6000 per year, and those over 50 can add an additional $1000. These contributions are over and above any employee plans you might have such as your 401k, TSP, or 403B. 

The exception is if you are already retired and your only income comes from Social Security, pension, or investments. You must have taxable earned income that meets or exceeds the $6000 or $7000 limit. 

There are also limits if your income exceeds certain thresholds. 

In a Traditional IRA, you lose the ability to deduct contributions if your earned income exceeded $124k joint income or $75k single income in 2020. 

You will not be able to contribute to a Roth IRA if your earned income exceeded $206k joint income or $139k single income in 2020. 

These exceptions do have a few loopholes and stipulations which we will cover in the near future. 

How do I decide which IRA is best for me? 

Ask yourself is whether your tax bracket is lower today, or will it be lower in the future? 

With Traditional IRAs, you get a tax break today, and it grows tax-deferred. You will be paying taxes like ordinary income when you withdraw in the future. 

With a Roth IRA, there is no tax break today. This is advantageous because it grows, and you can withdraw tax-free in retirement. 

Therefore, if your tax bracket is lower today, you should contribute to a Roth. If it is higher today than it will be in the future, contribute to a Traditional. 

It is a common scenario – someone a few years from retirement might be in the 22% tax bracket, which begins at $80k joint taxable income. In the future, they will be in the 12% tax bracket when it is time to withdraw. In this case, it is beneficial to defer taxes to the future. With a Traditional IRA, they take the tax break now at 22% and pay out later at 12%. Yes, the Roth grows tax-free, but there might be more tax-efficient ways to get money into the Roth in the future, after retirement, using Roth conversions. 

While it is beneficial to optimize Tax Planning for the current year, it is most valuable to optimize long-term for your overall financial success.

If you have any questions, please don’t hesitate to call us at 844-CARLSON (844-227-5766).