Retirement is one of the most important life events many of us will ever experience. 


If planning for your retirement has got you confused, you're not alone! There is no doubting the fact that many Americans have trouble distinguishing between the various retirement plans. Whether you don't know a thing about your retirement planning options, or if you simply can't distinguish between an IRA and Roth IRA, you've come to the right place.  Below we breakdown the various plans. 


IRA - Individual Retirement Account


Individual Retirement Account - otherwise known as the traditional IRA. A IRA’s are an excellent supplement to an individual's retirement income. Making contributions is discretionary, so individuals can choose when they want to fund their IRA. Contributions to an IRA may be tax deductible, and the earnings grow on a tax-deferred basis. This means that assets in the IRA are not taxed until they are withdrawn, allowing the owner to defer paying taxes until retirement, when he or she may be in a lower tax bracket, depending on his or her income and the tax rate that applies. Contributions are subject to statutory limits.


An IRA must be established with an institution that has received IRS approval to offer IRAs. These include banks, brokerage companies, federally insured credit unions, savings & loan associations and any other IRS-approved institution. An IRA can be established at any time. Contributions for a tax year, however, must be made by the IRA owner's tax-filing deadline, which is usually April 15 of the year following the tax year. The IRA must be opened in time to receive the IRA contribution. Tax filing extensions do not apply to IRA contributions.


A Traditional IRA can be funded by several sources and means:


Regular IRA contributions
Spousal IRA contributions
Transfers
Rollover contributions


On an annual basis, an individual may contribute 100% of compensation up to the IRS contribution limits. Click on the IRS button upon to see current year limits. 


All regular IRA contributions must be made in cash. This means an IRA owner cannot make contributions in the form of securities.


Spousal IRA Contribution 


An individual may make an IRA contribution on behalf of his or her spouse who makes little or no income. Spousal IRAs are subjected to the same rules and limits as that of regular IRA contributions. The spousal IRA contributions must be made to a separate IRA for the receiving spouse, as IRAs cannot be held as joint accounts. 


​For an individual to be eligible to establish a spousal IRA, he or she must meet the following requirements:

The couple must be married and file a joint tax return.
The individual making the spousal IRA contribution must have eligible compensation.
The total contribution for both spouses must not exceed the taxable compensation reported on their joint tax return.
Contributions to one IRA cannot exceed the contribution limits detailed on the IRS website.


Transfers


A transfer is a non-reportable, non-taxable movement of assets between similar types of retirement plans. An IRA owner may transfer assets between Traditional IRAs and SEP IRAs or from SIMPLE IRAs to Traditional and SEP IRAs. Generally, assets are transferred for the purpose of consolidating assets or changing financial institutions.


Rollovers 


An individual may make rollover contributions to his or her Traditional IRA. A rollover is a tax-free movement of assets between retirement plans, but unlike a transfer, the transaction is reportable: the distribution is reported to the IRS and the IRA owner on IRS Form 1099-R, and the contribution on IRS Form 5498. An IRA owner may roll over one distribution from an IRA within a 12-month period.


Distributions: 


Distributions from IRAs must eventually happen, but until the owner reaches the mandatory distribution age distributions are optional. The tax and penalty applied to distributions from an IRA depend on the IRA owner's age at the time of the distribution and the tax-deductibility treatment of the contributions. 


Distributions prior to age 59 ½


Distributions that occur before the IRA owner reaches the age of 59 ½ are subject to a 10% early-distribution penalty, in addition to any income tax, but the IRS will waive this early-distribution penalty when distributions are used for reasons which include the following:


  • pay unreimbursed medical expenses
  • For a Disability 
  • As distributions to the IRA beneficiary
  • As Part of an SEPP Program
  • For Qualified Higher Education Expenses
  • To Purchase a First Home
  • For payment of an IRS levy


Distributions after age 59 ½


Distributions that occur on or after the IRA owner reaches age 59 ½ may be subject to income tax but will not be subjected to the early-distribution penalty.


Required Minimum Distributions (RMDs) 


You cannot keep retirement funds in your account indefinitely. You generally have to start taking withdrawals from your IRA or retirement plan account when you reach age 70½.  



ROTH IRA


The ROTH IRA is a retirement saving account to which individuals can make contributions with after-tax dollars. If certain requirements are met, distributions from the Roth IRA will be tax-free. 


Why Establish a Roth IRA?


The Roth IRA is an excellent supplement to an individual's retirement nest egg. It accrues earnings on a tax-deferred basis, but these earnings amounts are tax free if certain requirements are met. For Roth IRAs, contributions are not tax deductible but qualified distributions are tax free. Contributions to the Roth IRA are discretionary, so individuals can choose when they want to fund their Roth IRA.


Who Can Establish a Roth IRA?


Any individual who has taxable compensation or self-employment income (earned by sole proprietors and partners) for the year may establish and fund a Roth IRA. To be eligible to make a regular contribution, the individual must have a modified adjusted gross income (MAGI) that is less than a certain amount, depending on the tax-filing status of the individual. Please click on the IRS button to see current year income limitations. 


There are no age limitations to contributing to an ROTH IRA.



ROTH IRA Funding


A Roth IRA can be funded from several sources:

Regular contributions
Spousal IRA contributions
Transfers
Rollover contributions
Conversions
Recharacterizations


Regular Roth IRA Contributions


Every year, an individual may contribute 100% of compensation up to the IRS limits. Individuals who are age 50 and older by the end of the year for which the contribution applies can make additional catch-up contributions. 

All regular Roth IRA contributions must be made in cash, as such regular Roth IRA contributions cannot make contributions in the form of securities.


Spousal Roth IRA Contribution


An individual may establish and fund a Roth IRA on behalf of his/her spouse who makes little or no income. Spousal Roth IRA contributions are subjected to the same rules and limits as that of regular Roth IRA contributions. The spousal Roth IRA must be held separately from the Roth IRA of the individual making the contribution, as Roth IRAs cannot be held as joint accounts.

In order for an individual to be eligible to make a spousal Roth IRA contribution, the following requirements must be met:

The couple must be married and file a joint tax return.
The individual making the spousal Roth IRA contribution must have eligible compensation.
The total contribution for both spouses must not exceed the taxable compensation reported on their joint tax return.
Contributions to one Roth IRA cannot exceed the contribution limits as detailed in the above chart. 


Transfers


A transfer is a non-reportable, nontaxable movement of assets between similar types of retirement plans. A Roth IRA owner generally transfers assets between Roth IRAs for the purpose of consolidating assets or changing financial institutions. A transfer of Roth IRA assets may also be made from one spouse's (or former spouses) Roth IRA to another, provided the transfer is permitted in accordance with a court-approved divorce decree or a legal separation agreement.


Rollovers


An individual may make rollover contributions to his or her Roth IRA. A rollover is a tax-free movement of assets between retirement plans, but unlike a transfer, which is non-reportable, a rollover is reportable. The distribution is reported to the IRS and Roth IRA owner on IRS Form 1099-R, and the rollover contribution is reported on IRS Form 5498. An IRA owner may roll over only one distribution from a Roth IRA within a 12-month period. Rollover contributions must be made within 60 days after the Roth IRA owner receives the distributed assets. Individuals can roll over eligible amounts from qualified plans, 403(b) and governmental 457(b) plans to Roth IRAs. These rollovers are reportable and any pretax amount is taxable. The rollover is reported on IRS Form 1099-R for the qualified plan and on IRS Form 5498 for the Roth IRA.


Conversion


A conversion is a reportable movement of assets from a Traditional, SEP or SIMPLE IRA to a Roth IRA. SIMPLE IRA assets cannot be converted to a Roth IRA until two years after the employer first made a contribution to the individual's SIMPLE IRA. The conversion is reported to the IRS and IRA owner on IRS Form 1099-R (for the Traditional IRA) and IRS Form 5498 (for the Roth IRA). There is no limit on the number of conversions an individual may complete within any period, and no income limit for conversion eligibility purposes.


Reconversions


An individual who converts Traditional, SEP or SIMPLE IRA assets to a Roth IRA may have that conversion nullified by recharacterizing the conversion. The individual may then later decide to convert the assets back again to a Roth IRA. The second conversion of these assets is a reconversion, which must not occur before the later date of these two following times:


  • the beginning of the tax year following the taxable year in which the first conversion occurred

           30 days after the recharacterization occurs

  • Any reconversion that occurs before the later of these two dates is treated by the IRS as a failed conversion and must be returned to the Traditional IRA by means of a re-characterization.


Distributions


The tax treatment of a Roth IRA distributions depends on whether the distribution is qualified. Qualified distributions from Roth IRAs are tax and penalty free, but nonqualified distributions may be subjected to tax and an early distribution penalty.

Qualified Distribution Defined


For a distribution to be qualified, it must occur at least five years after the Roth IRA owner established and funded his/her first Roth IRA, and the distribution must occur under at least one of the following conditions:

  • The Roth IRA holder is at least age 59 ½ when the distribution occurs.
  • The distributed assets are used toward the purchase, or to build or rebuild a first home for the Roth IRA holder or a qualified family member. Qualified family members include the IRA owner's spouse, a child of the IRA owner and/or of the IRA owner's spouse, a grandchild of the IRA owner and/or of his or her spouse, a parent or other ancestor of the IRA owner and/or of his or her spouse. This is limited to $10,000 per lifetime.
  • The distribution occurs after the Roth IRA holder becomes disabled.
  • The assets are distributed to the beneficiary of the Roth IRA holder after the Roth IRA holder's death.


For more information on the distributions on ROTH IRAs click on the IRS button: 


Like the Traditional IRA, Roth IRAs are flexible, and they are a popular way for individuals to save for their retirement. Roth IRAs differ, however, because assets can grow on a tax-free basis.


The Simplified Employee Pension (SEP) Plan


An SEP is a retirement plan established by employers, including self-employed individuals (sole proprietorships or partnerships). The SEP is an IRA-based plan to which employers may make tax-deductible contributions on behalf of eligible employees, including the business owner. The employer is allowed a tax deduction for plan contributions, which are made to each eligible employee's SEP IRA on a discretionary basis.

Employees do not pay taxes on SEP contributions. However, distribution of these amounts, plus any earnings are taxed. An employee (including the business owner) who is eligible to participate in his or her employer's SEP plan must establish a traditional IRA to which the employer will deposit SEP contributions. Some financial institutions require the traditional IRA to be labeled as an SEP IRA before they will allow the account to receive SEP contributions. Others will allow SEP contributions to be deposited to a traditional IRA regardless of whether the IRA is labeled as an SEP IRA. Because the funding vehicle for an SEP plan is a traditional IRA, SEP contributions, once deposited, become traditional IRA assets and are subject to many of the traditional IRA rules.

 

Who May Establish an SEP?


Any employer - including a sole proprietorship, partnership, corporation, and nonprofit organization - with one or more employees may establish an SEP plan. This includes a self-employed business owner, regardless of whether he or she is also the only employee of the business. Individual employees may not establish an SEP plan; instead, individual employees who are eligible to participate in the SEP plan must establish their individual traditional IRAs to which the employer will deposit SEP contributions. Generally, a Traditional IRA that receives SEP-employer contributions is referred to as an SEP IRA and is labeled as such by the financial institution.

Why Establish an SEP?


Unlike qualified plans, an SEP plan is easy to administer. The start-up and maintenance costs for SEPs are very low compared to qualified plans, and since contributions are discretionary, the employer decides every year if it wants to fund the SEP for that year.


SEP contributions


SEP contributions are made on a discretionary basis, which means the employer decides each year whether to make an SEP contribution for eligible employees.


The SIMPLE IRA


What Is a Savings Incentive Match Plan for Employees (SIMPLE) IRA?


A SIMPLE IRA is a retirement plan that may be established by employers, including self-employed individuals (sole proprietorships and partnerships). The SIMPLE IRA allows eligible employees to contribute part of their pretax compensation to the plan. This means the tax on the money is deferred until it is distributed. This contribution is called an elective-deferral or salary-reduction contribution. 

Employers are required to make either matching contributions, which are based only on elective-deferral contributions made by employees, or non-elective contributions, which are paid to each eligible employee regardless of whether the employee made salary-reduction contributions to the plan. For a matching contribution, the employer's contribution may match the employee's elective-deferral contribution dollar for dollar, up to a maximum of 3% of the employee's compensation. 


Why Establish a SIMPLE?


Unlike qualified plans, a SIMPLE IRA plan is easy to administer. The start-up and maintenance costs for SIMPLE IRAs are very low compared to qualified plans. Because the responsibility of funding the SIMPLE IRA is shared between the employer and employee, employees have some degree of control over how much and when (the years in which) their SIMPLE IRAs may be funded.


Who May Establish a SIMPLE IRA? 


Any employer who meets the following requirements is eligible to establish a SIMPLE IRA plan: The employer employed 100 or fewer employees who earned at least $5,000 during the preceding year. All employees employed at any time during the calendar year are counted regardless of whether they are eligible to participate in the SIMPLE IRA plan. The employer maintains no other plans (not including plans for employees whose benefits are determined under a collective bargaining agreement.


Who May Participate in a SIMPLE IRA? 


Any employee who has received at least $5,000 in compensation during any two years preceding the current calendar year and is reasonably expected to receive at least $5,000 during the current calendar year is eligible to participate in a company's SIMPLE IRA.


SIMPLE IRAs Contributions


Eligible employees may make elective-deferral contributions to their SIMPLE IRAs and the employer may elect to make either matching or non-elective contributions. Employer contributions are mandatory for each year that the SIMPLE IRA plan is maintained.


Employee Contribution Limit


Eligible employees may defer 100% of compensation up to the annual dollar limit to their SIMPLE IRAs. Employees who are at least age 50 by the end of the applicable year may defer additional amounts.


Employer Contribution Limits


An employer is required to make one of two kinds of contributions:


  • Dollar-for-dollar matching contributions (not to exceed 3% of the employee's compensation) on behalf of eligible employees who make elective-deferral contributions.
  • A 2% non-elective contribution to all eligible employees, regardless of whether they make deferral contributions.


An employer who elects to make matching contributions may reduce the 3% matching contribution to a minimum of 1% for two out of five years, or the employer may replace the 3% matching contribution with a 2% non-elective contribution. For any year the employer replaces the matching contribution with a 2% non-elective contribution, the employer's contribution is treated as if it were a 3% matching contribution for the purposes of the five-year period.


Distributions


Distributions from SIMPLE IRAs must eventually transpire. Until the required minimum distributions (RMDs) rules apply, distributions are usually elective. The tax and penalty treatment of distributions are determined by the SIMPLE IRA owner's age at the time of distribution.

A Savings Incentive Match Plan for Employees (SIMPLE) is an IRA-based employer plan under which eligible employees are allowed to make contributions to their SIMPLE IRAs, and employers are required to make either matching or non-elective contributions.

For more on SIMPLE plans please contact us. 


Qualified Plans


During retirement years, income for retirees usually comes from what is known as the three legged stool: 


  • Social Security benefits 
  • The regular savings account of the retiree 
  • Retirement-plan savings, such as IRAs and employer-sponsored retirement plans


One type of employer sponsored plan is a qualified plan or qualified retirement plan. A qualified plan is established by an employer to provide retirement benefits for its employees and their beneficiaries. A qualified plan may be a defined-benefit plan or a defined-contribution plan. Qualified plans allow the employer a tax deduction for contributions it makes to the plan, and employees typically do not pay taxes on plan assets until these assets are distributed; furthermore, earnings on qualified plan assets are tax deferred.


Why Establish a Qualified Plan?


For a business, choosing the right retirement plan is one of its most important financial decisions because the plan must suit not only the employer's immediate needs but also its financial and business profile. A qualified plan offers benefits to both employer and employees:

Benefits for Employers: 


Employers may receive a tax deduction for plan contributions. Employers are able to attract and retain high-quality employees. A qualified plan may be the tiebreaker that wins over a skilled person who is offered relatively similar compensation packages from different potential employers. Employers may be able to claim a tax credit for part of the ordinary and necessary costs of starting up the plan.


Benefits for Employees


For plans that provide salary-deferral features, employees are able to defer paying taxes on a portion of their compensation until their retirement years, when their tax bracket may be lower. Some plans allow employees to borrow from the plan. The interest paid on the loan amount is credited to the employee's account, unlike interest on loans obtained from financial institutions, which is paid to the financial institution. 


403(b) Plan


What Is a 403(b) Plan?


A 403(b) plan is a retirement plan for certain public school employees, employees of tax-exempt organizations and ministers.

Accounts under a 403(b) plan can be one of the three following types:

  • An annuity contract provided through an insurance company; these 403(b) annuity plans are also known as tax-sheltered annuities (TSAs) and tax-deferred annuities (TDAs).
  • A custodial account provided through a retirement account custodian; investments are limited to regulated investment companies, such as mutual funds.
  • A retirement income account, for which investments options are either annuities or mutual funds.


The employer may determine the financial institution(s) at which individual employees may maintain their 403(b) accounts, which in turn determines the type of 403(b) accounts that the employees may establish and fund. 


Why Establish a 403(b) Account?


The following are advantages of maintaining a 403(b) plan or account:

Employer:

  • Attractive benefits that help keep high-quality employees happy.
  • A shared cost of funding between employers and employees.


Employee:

  • Reduced taxable income through pretax contributions,
  • Tax-deferred earnings on plan contributions.
  • The likelihood of paying less tax on assets as distributions usually occur during retirement, when an employee may be in a lower tax bracket.
  • The ability to take loans from the 403(b) accounts.


 For more on Qualified plans please contact us.  And for more information on 529 and Education IRA plans please see the College Planning tab. 

Retirement

Camelot Wealth Management​

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