Contributions to a traditional IRA may be tax-deductible up to a certain amount. Generally, you cannot receive distributions until you are 59 ½, but there are exceptions, such as for first-time homebuyers. If you make non-deductible contributions, part of your distributions may be a tax-free return of cost. Earnings can accumulate tax-free in your IRA until you receive distributions.
The principal tax advantages of a traditional Individual Retirement Arrangement (IRA) are that contributions may be fully or partially tax deductible, and earnings in the account can grow tax-free until distributed.
You can set up a traditional IRA and make contributions if you received taxable compensation and you are under age 70 ½. If you are married and both you and your spouse have taxable compensation and are under age 70 ½, you can each set up an IRA. Both spouses cannot participate in the same IRA.
How Much Can be Contributed to an IRA and Deducted for Tax Purposes?
General Limit
The amount you can contribute to a traditional IRA and deduct for income tax purposes is limited to a certain dollar amount per year, or your taxable compensation for the year, whichever is lower. If you reach age 50 before the end of the year, the dollar amount limit on your deductible contribution is generally $500 higher. This is called the general limit. The fixed dollar amount is subject to change, and is published in the instructions and publications issued by the Internal Revenue Service (IRS) each year.
Spousal Limit
If you are married filing jointly and your taxable compensation is less than your spouse’s, the maximum amount you can contribute to your IRA for the year is the lesser of the fixed dollar amount per the general limit, or the total taxable compensation of both you and your spouse, reduced by your spouse’s contribution to an IRA and any contributions made to a Roth IRA on behalf of your spouse.
This means that, a married couple filing a joint return can contribute up to the maximum amount each to their IRA’s, even if one spouse had little or no income, provided one spouse had enough taxable compensation to cover the fixed dollar-amount limits for both.
Contributions More or Less than the Maximum
If you contributed less than the maximum amount allowed for one year, you cannot contribute more than the maximum allowable amount in a subsequent year to make up the difference. The contribution limit applies year-by-year.
But, if you contribute more than the maximum allowable amount one year, you can apply the excess to a later year, but you may be subject to a penalty or additional tax.