Types Of IRAs
The most common types of IRAs are Traditional IRAs and Roth IRAs. The main difference between the two of them is when income tax is paid.
A traditional IRA permits investment of pre-tax dollars that are invested tax free. When money is withdrawn or distributed, it is subject to ordinary income tax.
With a Roth IRA, money is invested after tax and is invested tax free. With a ROTH IRA, distributions and withdrawals are tax free.
There are also SEP and SIMPLE IRAs for use by small businesses and a Coverdell ESA (formerly known as an Education IRA) for to help fund education for young people. These IRAs are basically subject to the same general IRA rules as traditional IRAs and Roth IRAs.
The following information applies to all IRAs. See the other sections of this article for (1) a chart comparing the various types of IRA and (2) information specific to each type of IRA.
When Can I Make Contributions?
Contributions to an IRA can be made at any time during the year or by the due date for filing your return for that year. When you determine the due date for filing your return for a year, keep in mind that extensions are not included for purposes of IRAs. For most, this means contributions for 2015 can be made anytime between January 1, 2015 and April 18, 2016.
NOTE: If you contribute to your IRA between Jan 1, 2015 and the filing deadline (April 18 for 2016), you should tell the sponsor in writing which year (2015 or 2016) the contribution is for. If you do not say anything, the sponsor may make an assumption that is not what you want.
What Types Of Assets Can I Contribute?
Contributions to an IRA must be in the form of money (cash, check or money order).
If permitted by the trustee of the Plan, you can also transfer securities into an IRA. Real or personal property, however, cannot be contributed.
What If I Contribute More Than Permitted?
If you contribute more than is allowed to an IRA, the excess amount will be subject to an excise tax of 6%. You can correct the excess contribution, and avoid the excise tax, by making withdrawals that bring the contribution down to the maximum permitted amount. The withdrawals must occur on or before the date you file your return.
If you don't correct the situation in time, you will have to pay the 6% extra tax each year until you take a distribution or reduce your future contributions to offset the excess deposit.
For additional information, see:
- Comparison of Roth vs. Traditional IRA: A Chart
- The Traditional IRA
- Roth IRA
- Coverdell ESA (formerly known as an Education IRA)
- SIMPLE IRA and SEP IRA For Small Businesses
Edited by: Peg Downey, CFP, NAPFA
Silver Spring, MD