Everybody knows taxes are due on April 15 — but did you know you also have this last week to stash some extra retirement cash out of Uncle Sam’s reach?
Just like we pay our 2013 taxes in 2014, you can make 2013 contributions to an individual retirement account (IRA) in 2014. And that’s a time machine worth hopping into. (Brand-new to retirement saving altogether? Check out our story MyRA: Your newest retirement saving option.)
If you’re willing to act quickly or amend your tax return, it might even lower your current taxes. Here’s how it all works…
How much can I put in?
You can contribute $5,500 per year to an IRA if you’re under age 50, and $6,500 per year if you’re between 50 and 70. After that? “You can’t make regular contributions to a traditional IRA in the year you reach 70½ and older,” the IRS says, although another kind of IRA, called the Roth, lets you put money in at any age.
What happens with taxes?
IRA money can be invested in stocks, bonds, and mutual funds — and it grows (through interest, dividends or capital gains) without being taxed. A so-called “traditional” IRA isn’t taxed until you withdraw money. Roth IRAs are taxed as you put money in, but not when you make withdrawals.
Why would you want to be taxed now, rather than later? Some people expect their tax rates to go up in the coming decades, so they’re getting a bargain by paying now. On top of that, Roth IRAs have some extra flexibility, which we discuss below.
If you have no employer-sponsored retirement plan like a 401(k), you can also deduct the full amount of your contribution on your tax return. If you have an employer plan, you may still be able to deduct part of it — there’s a scale based on your income. You may also be eligible for the Retirement Savings Contributions Credit, which could directly lower your tax bill by up to $1,000.
When can I get my money back?
These are retirement accounts, so they’re designed to keep money flowing in one direction until a certain age. But it’s not the traditional retirement age we all think of — it’s 59½. Before that, withdrawals can be hit with a 10-percent penalty.
The rules are tricky, though. With Roth IRAs, after the first five years, you can withdraw as much as you put in, at any time, without penalty. But you can’t pull out any earnings the IRA has generated from those contributions. Any of that extra money you tap will be hit with the penalty.
In certain situations, you can avoid the early withdrawal penalty. For instance, you can take out the amount you’ve put in for any given tax year up until the IRA deadline — when your tax return is due. You can also use some of the money without penalty for a first home or college, or if you become disabled, or if you have enormous medical expenses. Check out the exceptions section on the IRS page for the Age 59½ Rule for details.
Just remember: You’re potentially losing future earnings when you make withdrawals. You can’t stuff years of contributions back in the account later, at least not all at once. The annual contribution limits still apply.
If you’re getting a tax refund or already got one, that’s a perfect way to start saving for retirement or add to what you’ve got. After all, it’s extra money. Might as well make it work for you.