IRAs: A Quick Reference Guide Q & A

Last update on: May 28 2020

By Bruce Miller

Q. This will be our last year of having earned income before retirement. I understand that my maximum contribution this year (age 61) to my IRA is $6,500. If I contribute $13,000 this year, could I carry the extra over to contribute for next year after paying the 6% penalty for excess contribution?

A. Yes. If you do enough part-time work next year or work enough during the first few weeks of the year to have earned income at least equal to $6,500, then this would be doable. Otherwise, you must withdraw the excess contribution in the ensuing years you do not have earned income. If you do not withdraw the excess by Oct. 15 of a given year, there will be a 6% penalty due and the penalty will continue each year the excess remains in the IRA.

Q. My employer offers an “IRA Contribution Option” for our 401(k) plan where I can designate part of my contribution to an IRA with the employer. But according to the Employee Handbook, I cannot contribute to my own IRA if I do. I thought you said my contributing to my employer-sponsored retirement plan has nothing to do with my ability to contribute to my own IRA. Can you explain?

A. There is one condition where this is indeed the case. This does not seem to happen very often and I have never seen it personally. However, an employer has the option of adding a “Deemed IRA” or sometimes referred to as a “Side Car” IRA to the regular retirement plan. Under this condition, if the employee contributes to this “Side Car” IRA, it counts as their annual contribution to their own IRA, so in effect, the employee agrees to move their own personal IRA up to the employer.

All rules regarding deductibility and maximum contribution amounts, as well as all other IRA rules, still apply. Contributing to this really has nothing to do with the amounts the employee elects to contribute to their regular employer retirement plan, such as a 401(k), 403(b) or 457(b) for government workers. This kind of arrangement can offer either a RIRA or TIRA and would likely be offered by the employer as a convenience to employees.

Also note that this arrangement does not relate to an employer offered retirement plan that has an associated Roth IRA, such as a 401(k)-Roth, where the annual salary deferral can be divided by the employee between the 401(k) pretax and the Roth portion as an after tax contribution. A 401(k)-Roth or a 403(b)-Roth or a 457(b)-Roth are all part of the employer’s retirement plan offering and are not related to the offering of a “deemed IRA” if the employer were to offer it.

Q. I think I made a mistake. I am retired, and my wife and I have been running three rental properties for the past four years. Each year, we have reported our taxable gains on Schedule E, per our tax preparer’s recommendation. Also, I have been making tax deductible contributions to our TIRAs each year. Now I read that rental income is NOT earned income one may contribute to their IRA. Since we have no other form of earned income, did I make a mistake? If I did, what must I do now about it?

A. Yes, you did make a mistake. Rental or royalty income is not considered compensation income – unless you “substantially” participated in it as a profit-oriented business and filed a schedule C. If you indeed materially and substantially participated by providing most of the services to the operation of the rentals and you operated it as a business, you may be able to go back and amend past returns. You will have to add schedule C, delete Schedule E and amend your 1040 to reflect these changes, as well as pay past FICA tax. This may also change the amount you may contribute to your IRA for the year if you do not have enough net Schedule C or C-EZ income to at least equal the amount of the IRA contributions for you and your spouse for a given year.

This will be a bit involved, so you are well advised to seek the assistance of a tax CPA. But if you did not “materially and substantially participate” in the operation and management of the rentals, then you will have to amend your past tax returns to remove the IRA deduction. YOU will also have to withdraw past IRA contributions and all associated earnings and perhaps pay a 6% penalty for past year’s excess contributions. This will be complicated, so you should seek the services of a CPA or other tax preparer experienced in filing amended tax returns.

Q. I received a portion of the TIRA from my ex-spouse through a divorce order by the court and I need the money to live on until I can get settled. I am 35 and currently I do not have a job. Can I use the money from the TIRA the court gave me? I currently do not have an IRA.

A. The TIRA that is created from the direct transfer from your former spouse’s IRA, is yours to withdraw from as you see fit. However, until you are age 59.5, any withdrawal you make will be subject to a 10% penalty, unless one of the 10% exemptions applies. Were this an employer-sponsored retirement plan and the divorce decree were used to create a Qualified Domestic Relations Order, then it would qualify for an exemption. IN that case, any withdrawal you took from the plan as part of the amount you would be getting from the divorce settlement, would not be subject to the 10% early withdrawal penalty.

I hope that answering these actual questions from real clients was helpful in explaining some specific cases and intricacies, as well as rules governing IRA contributions. In my next article, I will provide some basic information about the Deductibility of TIRA contributions on federal tax returns.