IRA Benefits and Contribution Limits for 2020-2021

Hey, what's up everyone, and welcome to the School of Personal Finance. In today's video, I'm going to go over the benefits and some strategies of using individual retirement accounts. I'm also going to talk about the contribution limits for 2020 and 2021, so you know if you qualify exactly how much you can put in, what the deadline is to get the money in there, and everything you need to know to take advantage of these awesome accounts. All right, let's get to it. All right, just a friendly reminder to go check out schoolofpersonalfinance.com, join my email list. I'm in the process of putting together some free courses, where you could do a deeper dive on a particular subject, or I'm going to do them based on the stage of life that you're in. So it's something that I'm going to be rolling out over the next few months. Get on my mailing list, and I'll keep you up to date as I progress through that. So now I've done videos in the past comparing a traditional IRA to a Roth IRA. The main difference is how they are taxed. So with a traditional IRA, you get a tax deduction the year that you make the contribution, as long as you qualify, as long as you're below the income limits. Then with a Roth IRA, you put in after-tax money, so there's no tax deduction in the year that you make the contributions. But then the money grows tax-free forever, and it will never be taxed when it comes out, as long as you follow the Roth IRA withdrawal rules. Where with the traditional, you get the tax deduction up front, but when it comes out, you're going to be paying ordinary income tax on that money. So that is the big difference between the two, and we don't know what our tax brackets are going to be in the future. So that is why I am a fan of having money in both buckets, so you can control where you're pulling the money from in retirement. If you find yourself in a high tax bracket, or because of whatever is going on with the government, tax rates are increased, then maybe you would be pulling money from a Roth, so it comes out tax-free. But if you find yourself in a low tax bracket, or tax brackets are lower than normal, then you pull money from the traditional in retirement. So it's good to have tax diversification and have your options open as to which bucket you want to pull the money from in retirement. Another big benefit to IRA accounts, compared to like a 401k, is that you have much more control. So within an IRA, you could really choose whatever investments you want. You could buy individual stocks, you could buy bonds, ETFs, mutual funds, low-cost index funds, so you're not held hostage to whatever your plan has as options that are available. You also don't have to worry about if you change jobs, rolling it over to an IRA, because it's already in an IRA. So for those reasons, I am a big fan of having IRAs be a part of your overall retirement strategy. And now, a strategy that I am a fan of, and that I am always talking about, is contributing in your 401k up until the match. So if you have a match available through your employer-sponsored retirement plan, you contribute the max amount in order to take full advantage of the match, but then you stop there, and then you contribute to IRAs, and you fill up your IRA, the $6,000 contribution that you're allowed to do this year, you would fill that up in either a traditional or a Roth, depending on what you qualify for, and we will get into that in this video. And then once you max out your IRA contribution for the year, and you still want to save more money, then you go back to the 401k, and you contribute until you max out the 401k. I think that is a great way and a great strategy to approach maxing out your retirement accounts and going in the correct order. All right, so let's talk about the contribution limits for 2020 and 2021. Now, an important date is April 15th, which is the tax deadline, where you can still make contributions for 2020. So if you have not done that yet, you still have an opportunity to do that by the tax filing deadline. So for 2020 and 2021, the amounts haven't changed, you can contribute up to $6,000 if you are below the age of 50, and if you are 50 and above, you have $1,000 catch-up contribution, so you could do up to $7,000 in those years. Now, the determining factor is you need to have compensation or earned income in order to contribute to these IRA plans. Now, if you're retired or you don't have regular W-2 income, just make sure that you do qualify, that your compensation is qualified, like for example, pension income does not qualify or dividends or rental property income, those do not qualify as compensation as far as making IRA contributions. Now, even if you max out your 401k or you are contributing to your retirement plan through your employer, that does not interfere with you being able to make contributions to your IRAs. So the limit, that $6,000 limit or 7,000 if you're 50 or above, 401k contributions do not affect that. But what you can't do is make contributions more than the maximum in those two accounts. Like for example, you can't do $4,000 into your traditional IRA and then do 6,000 into your Roth. So it's the aggregate amount between those two. You could do like 3,000 and 3,000 if you wanted to, or you could do 4,000 in the Roth, 2,000 in the traditional as long as you qualify, but you can't go over $6,000 altogether between the two IRA accounts. And now if you're married and one spouse works and the other spouse stays at home, then you could qualify for what's called a spousal IRA. So even though the one that's staying at home doesn't have any compensation, they could still contribute to a spousal IRA. Again, as long as the income falls within those income limitations, which I'll talk about in a minute. But if one of the spouses earns, say for example, $100,000 and the other spouse is staying at home with no compensation, you could max out both spouses $6,000 each if they're below the age of 50, even though one of the spouses does not have compensation. So that is called a spousal IRA. And it's the same as a traditional or a Roth IRA. There's not a special account that you need to open. They just call it a spousal IRA. All right, so now let's talk about the income limitations. So if you make too much money, then the IRS is basically saying, sorry, you don't qualify for either a tax deduction on your IRA contributions, or you don't qualify at all for a Roth IRA. So it's important to understand where you fall so that you know what accounts can you actually use while planning for your retirement. And now a great resource is Fidelity. They have a great breakdown. I'm going to share my screen with you here and walk through exactly what they have on their website. I'll also put a link down in the description if you want to go and check it out yourself. So now the income that is used to determine if you qualify for the IRA deduction, or if you qualify to be able to contribute to a Roth IRA, it's called your MAGI, your Modified Adjusted Gross Income. And if we go to Investopedia right here, my favorite resource, we can see that MAGI can be identified as your household's adjusted gross income with any tax exempt interest and certain deductions added back. So if you are close, as far as your adjusted gross income, you want to make sure that you are calculating it correctly. You should ask your accountant what your MAGI is, your Modified Adjusted Gross Income, so that you know that you do qualify for taking the tax deduction. And that is why the IRS gives you up until the tax filing deadline to make the contribution so that you can actually do your taxes beforehand and make sure that your MAGI is below the limits to make Roth contributions or to take the tax deduction on traditional IRAs. All right, so for 2020 and 2021, the traditional IRA deduction limits are as follows. And now remember, you could make a traditional IRA contribution no matter how much money you make, but you can't take the deduction unless you fall below these limits. So now if you are single, then it is under $65,000 of Modified Adjusted Gross Income. So if you make below $65,000, you could take the full deduction for your IRA contributions. So now if you are over $65,000, but you're below $75,000, then you could take a partial deduction. Obviously, the closer you get to $75,000 in income, then the smaller the deduction is that you're going to be eligible to take. And then if you make over $75,000 of Modified Adjusted Gross Income, then you do not get a tax deduction for making IRA contributions. Now if you are married, then it is under $104,000 of Modified Adjusted Gross Income to get the full deduction. And if you make over $104,000, but you're below $124,000, then you're going to be able to take a partial deduction. And once you go over $124,000, then you are priced out. You are not able to take a deduction for IRA contributions. And now if you're married filing separately, then you are really limited. If you make below $10,000, then you're able to take a partial deduction. And if your income is above $10,000, then there is no deduction. Now those limits that I just went over, those are for you if you are covered by a plan at work. So like if you have a 401k or a 403b plan available to you at work, then those are the limits that apply to you. But what if you are not covered by a plan at work? Then these are going to be the limits for you. If you are single and you have no plan offered to you at work, then you're able to take a deduction no matter how much income you have. So even if you make $300,000 a year, you are able to make the maximum contribution to a traditional IRA and take the tax deduction for it. And if you are married filing jointly with a spouse who also does not have a retirement plan available to them at work, then you could each do the maximum contributions and take the deduction for it no matter how high your income is. There's no income limitation. And now if you are married filing jointly and your spouse is covered by a retirement plan at work like a 401k plan, you can still make contributions to a traditional IRA and have them be deductible if your modified adjusted gross income between the two of you is below $196,000. So if your spouse is working, they make $190,000 a year and you are a stay-at-home parent, you could then open up what's called a spousal IRA and you could make a deductible contribution to that spousal IRA. And now if the income is over $196,000 but it's less than $206,000, then you could take a partial deduction depending on where you fall in between there. And then if the joint income or your spouse's income is over $206,000, then you are not able to take a deduction for the traditional IRA. And then married filing separately, it's the same limitations. Below $10,000, there's a partial deduction. Over $10,000, there's no deduction at all. And now for 2021, it's pretty much the same as 2020. I'm not going to go through all the numbers, but it's like $1,000 more they increase the adjusted gross income in order for you to qualify for the deductions. But you could see them right on the Fidelity site here. So that's everything for the traditional IRA. Now let's go over to the Roth IRA. So now remember, with a Roth IRA, you are not getting a tax deduction in the year that you make the contribution. But what happens is the money that you put in, it's going to grow tax-deferred in that account. And then as long as you follow the withdrawal rules of the Roth IRA, when you take that money out, you will owe no taxes on it. So it's a great way to save for retirement where you will have tax-free money in retirement. And now the limits, the $6,000 if you're under the age of 50, $7,000 if you're 50 or older, that's the maximum that you could contribute in a given year. All right, so if you are single and your modified adjusted gross income is under $124,000, then you are able to make the full contribution. If you make over $124,000, but you're below $139,000, then you could make a partial contribution. And again, the closer you are to that $139,000, the less you're able to contribute. And Fidelity right on here, they have a little calculator where you could click on this and calculate how much of a contribution you could actually make. And then if you make over $139,000, then you are priced out. You are not eligible to make a Roth contribution. And then if you are married, the magic number is $196,000. So if you guys make less than $196,000, then you are able to contribute the full amount of $6,000 to your Roth IRAs. And husband and wife, you guys could each do $6,000. That's $12,000 between the two of you for the year into Roth IRAs. Now if you make more than $196,000, but less than $206,000, then you're eligible for a partial contribution. And now if you're over $206,000 of modified adjusted gross income, then you are not eligible to make Roth IRA contributions. And then the same limitations if married filing separately. Under $10,000, you get a partial contribution and over $10,000, not eligible to make Roth contributions. So to wrap this up, I think using individual retirement accounts as part of your overall retirement strategy is a great way to go. So figure out what do you qualify for? Do you qualify for the tax deduction on the traditional IRA and does that make sense for you? Or are you better off doing a Roth IRA and do you qualify for that? Figure it out. Get it in before April 15th. Don't let 2020 pass without you making your IRA contributions. And then figure out for 2021 what's going to make the most sense for you. All right, everyone. I hope that you found this one helpful. Please make sure to subscribe to this channel if you've not done so already. Hit that like button if you got value out of this video and I'll see you again next week. Thanks.