Why You Need to Make Max IRA Contributions

glass full of cash and change concept of IRA

Your mind might be on the holidays or New Year’s resolutions, but don’t let the season’s hustle and bustle cause you to ignore your finances — especially retirement planning.

For the tax year 2017, IRA contribution limits are as follows:

  • $5,500 for anyone with earned income at or over that amount.
  • An additional $1,000 catch-up contribution for those who were 50 or older at any point during the year.

In addition, the maximum you can contribute will be lower than $5,500 if your earned income is less than this amount. Keep reading to find out why you should make maximum IRA contributions and build the retirement funds you’ll need.

Why You Should Make Max IRA Contributions

An IRA is an individual retirement plan that functions as a type of investment account with tax benefits to help you keep more of what you save. When maxing out your IRA contributions, remember that only earned income from employment or self-employment will qualify.

Here are a few reasons why you should max out your IRA contributions:

1. You Have Annual Contribution Limits

Your 2017 contributions are due on the date your 2017 income taxes are due, with no extensions. You can only contribute a limited amount of money to your IRA each year, and if you don’t make it, you can’t carry it over for future years. For example, if you miss your window to contribute for the 2017 tax year, you can’t contribute double in 2018 to make up the difference. You only have until your tax filing deadline the following year to make your IRA contribution each year.

When you make your contribution for any given tax year in the following calendar year — such as between Jan. 1 and April 16 in 2018 — make sure you tell your IRA custodian to count it for the previous year or he will count it for the current year.

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Related: Roth vs. Traditional IRA — Which Retirement Plan Is Best for Me?

2. You Can Utilize Legal Tax Shelters

Once your money is put into an IRA, the investments grow tax-free, so you don’t have to pay taxes on the growth on those funds. The sooner you make contributions to your IRA, the sooner you can reap those benefits. As long as you continue to hold the money in a taxable account, any income will continue to add up on your tax return.

After you’ve made your contribution, all of those future gains aren’t taxed, so each time you sell stocks within your IRA, you don’t have to report the income and you get to reinvest the entire amount.

For example, say a $3,000 investment grows to $4,000 and you sell. When that growth occurs in a taxable account, you’ll watch some of that $1,000 of gain go to Uncle Sam after tax deductions, leaving you less to reinvest. Had you already put that money into your IRA, however, you’d keep the $1,000 and have the full $4,000 to reinvest.

See: 6 Legal Tax Shelters to Protect Your Money 

3. Tax Deductions Are Available for Traditional IRA Contributions

When you contribute to a traditional IRA, you might be able to lower your income tax bill. The traditional IRA tax deduction for contributions is an adjustment to income, which means you can claim it even if you don’t itemize your deductions.

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In case you and your spouse aren’t covered by an employer-sponsored retirement benefit plan, like a 401k plan or simple IRA, you can take full advantage of your IRA’s tax deduction. But, if either you or your spouse is covered by such a plan, you might not be able to deduct the contributions.

For 2017, if you are covered by an employer-sponsored plan, your traditional IRA is:

  • Fully deductible if your modified adjusted gross income is below $62,000
  • Partially deductible if your MAGI is between $62,000 and $72,000
  • Nondeductible if your MAGI is $72,000 or more

For 2017, if only your spouse is covered, your traditional IRA is:

  • Fully deductible if your MAGI is below $186,000
  • Partially deductible if your MAGI is between $186,000 and $196,000
  • Nondeductible if your MAGI is $196,000 or more

4. Tax Credits Are Available for Low-Income Taxpayers

Whether you contribute to a traditional IRA or Roth IRA, you might also qualify for the retirement savings credit: A credit reduces your taxes by up to 50 percent of the amount of your contribution, depending on your income. To qualify, your income must be below the limits for your filing status; you must be 18 or older, not a full-time student and not claimed as a dependent by anyone else.

For the 2017 tax year, your credit is 50 percent of your contribution if your income falls below the following limits:

  • Married filing jointly: $37,000 or less
  • Head of household: $27,750 or less
  • All others: $18,500 or less

For higher incomes, you can still claim a credit of 10 percent or 20 percent of your contribution if your income falls below the following maximums:

  • Married filing jointly: $62,000 or less
  • Head of household: $46,500 or less
  • All others: $31,00 or less
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5. IRA Withdrawal Rules Have Exceptions

You might hesitate to max out your IRA because you’re unsure if you’ll need the money before you retire. It’s good to think of your contributions to your IRA as untouchable until retirement so you don’t tap your retirement plan early. Plus, all taxable withdrawals from your IRA before age 59 ½ are subject to a 10 percent early withdrawal penalty unless an exception applies.

Exceptions to the penalty include:

  • Permanent disability
  • Higher education expenses
  • Up to $10,000 to purchase a first home
  • Medical expenses in excess of 10 percent of your adjusted gross income or 7.5 percent if you are over 65 years old
  • Health insurance premiums during period(s) of unemployment

In addition, withdrawals of contributions from a Roth IRA come out tax-free and penalty-free because your contributions aren’t tax deductible. So, it’s not impossible to get your money out without having to pay a penalty.

Find Out: 10 IRA Withdrawal Rules You Need to Know

6. You Can Maximize Retirement Savings

The biggest reason to max out your IRA is to maximize retirement savings. Even if you max out contributions to a 401k or another workplace retirement plan, it might not be enough.

People are living longer, and this puts a strain on retirement savings. The more money you have, the better. Even if you aren’t eligible to contribute to an IRA on a pretax basis, your after-tax contributions to an IRA still enjoy tax-deferred growth until retirement.

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Up Next: Expert Tips to Get the Best IRA for Your Retirement


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