Having taxable compensation is a requirement for setting up an IRA. The amount of your taxable compensation also determines the amount of your deductible contribution, which according to the general limit is the lower of your taxable compensation or the fixed dollar amount. For IRA purposes, compensation is generally defined as what you earn from working, and includes the following:
Wages, salaries, tips, professional fees, bonuses, or any amounts you receive as compensation for rendering personal services. This compensation is generally reported in box 1 of your Form W-2, Wage and Tax Statement.
Commissions you receive, expressed as a percentage of profits or the sales price.
Net earnings from self-employment, assuming that personal services are a significant income-producing factor, minus the total of the deduction for contributions made on your behalf to retirement plans set up under your business, and the deduction you are allowed for one-half of the self-employment tax.
Alimony and separate maintenance payments you receive.
For IRA purposes, compensation does not include:
Earnings on property, such as rental income, interest, and dividends.
Pension or annuity income.
Deferred compensation payments that you receive.
Income from a partnership in which your personal services are not a material income-producing factor.
Amounts you exclude from income, such as the foreign earned income exclusion claimed on Form 2555.