Recently I had a client in his mid-60s ask me how much longer he’d be allowed to contribute to his IRA. My client was approaching retirement, but wasn’t planning on drawing from the account until he absolutely needed to.
Since he had other financial resources to draw income from his plan was to let the account grow for as long as possible, thereby delaying tax on the gains. This meant contributing the maximum amount to his account each year, and only withdrawing funds when forced to by required minimum distributions.
Required Minimum Distributions
As you may know, you are required to begin taking withdrawals from IRAs once you turn 70.5. Since the IRS gave you a pass on paying income tax on the contributions, they want to make sure they get their cut during your retirement.
To calculate your RMD each year, you’ll need to look up your life expectancy in the guide provided by the IRS. You’ll then divide your account balance on December 31st of the previous year by this number.
IRA Contributions After 70.5
Coincidentally, the IRS uses the same 70.5 age threshold for contributions to IRAs. In the year you turn 70.5 you’ll no longer be allowed to contribute to your IRA, in addition to being required to start taking RMDs.
In my client’s situation, the prospect of limiting his contributions to only the next 5 or so years, and then being forced to take taxable withdrawals was not ideal. Fortunately, there is a great alternative: the Roth IRA.
Roth IRA Contributions after Age 70.5
The IRS imposes required minimum distributions to ensure they collect tax on your income. Since you don’t pay income tax on your contributions, the RMDs after age 70.5 are intended to force a taxable event.
But in Roth IRAs, this taxable event has already occurred. You pay income tax on any contribution you make to a Roth IRA. And coincidentally, the IRS doesn’t impose RMDs on them.
There is also no age limit on contributions to a Roth IRA. You’ll be allowed to make contributions in any year you have earned income.
Earned income is any money paid to you for work you performed. This includes:
- Self-employment income
- Profit distributions from a small business
- Alimony payments
- Military differential pay
It does not include:
- Dividends from investments
- Rental income
- Pension payments
Your contributions can only be as large as your earned income for the year, up to the annual maximums. This means if you earn more than $6,500, you’ll be able to contribute $6,500 (the $5,500 annual max plus a $1,000 catch up contribution if you’re over age 50). If you earn $3,000, you’d only be allowed to contribute $3,000 – the full amount of your earned income.
Keep in mind that Roth IRAs have income phase outs as well. Since the account’s tax advantages are SO good, the government excludes high income earners from participating.
In 2016, this phase out begins at $183,000 per year for married couples and $116,000 and single filers, and phases out entirely at $193,000 / $131,000. You won’t be allowed to make Roth IRA contributions any year your earned income is higher than these amounts.
You Can Make Roth IRA Contributions after Age 70.5…..But Should You?
OK – we’ve established that you can contribute to a Roth IRA every year, with no age limit, as long as you have sufficient earned income. But should you?
In general, I’m a huge advocate of plowing as much money into retirement accounts as you can (as my client is seeking to do). The advantages of letting your money grow tax free are too hard to ignore.
The only issue that might arise is if you need to take withdrawals from your account within 5 years. Even though you’re over age 59.5, you’d only be able to withdraw your principal investment free of penalty. Any earnings in the account will need to stay put for 5 years in order for the withdrawal to be “qualified” and free of the 10% penalty.
There are a few loopholes though:
- You may withdraw earnings from a Roth IRA penalty free if your withdrawal is part of a substantially equal series of periodic payments
- You may withdraw up to $10,000 from a Roth IRA penalty free for a first time home purchase (granted, this is probably an unlikely scenario in your retirement years)
- You may withdraw an unlimited amount from a Roth IRA penalty free in order to pay for college expenses for yourself, your spouse, kids, or grandkids (great grand kids, too)
The Bottom Line
You can absolutely continue to make Roth IRA contributions as long as you have earned income. And even though you can’t take out earnings for five years, you’ll have unlimited access to the principal if you need the money for an unforeseen reason. This is just another compelling reason to contribute to a Roth IRA any time you can.