The key benefits of traditional IRA

If you choose a traditional IRA, your contributions may be tax-deductible, while your savings grow and compound tax deferred until you withdraw them at retirement. In certain situations, your entire contribution to a traditional IRA can be tax deductible, meaning that you get to subtract the amount that you contribute from your income, reducing the amount of taxes you have to pay overall. The rules for this tax benefit are as follows:

• If you’re single and don’t have an employer-sponsored retirement plan, the full $ 2,000 is deductible on your income tax return.
• If you’re single and covered by an employer-sponsored plan, you can contribute up to $2,000 and deduct the full amount if your annual adjusted gross income is $30,000 or less. (Annual adjusted gross income is defined as your gross income, less certain allowed business-related deductions. Deductions include alimony payments, contributions to a Keogh plan, and in some cases, contributions to an IRA.) If your income is between $30,000 and $40,000, the deduction is prorated. If you make more than $40,000, you can contribute, but you get no deduction. These numbers gradually increase to $50,000 for taking the full deduction and to $60,000 for taking no deduction, until the year 2005.
• If you’re married and file your tax returns jointly, you have an employer-sponsored plan, and your annual adjusted gross income is $50,000 or less, you can deduct the full amount. The figure is prorated from $50,000 to $60,000. After $60,000, you can’t take any deduction. By 2007, the income allowances will increase to $80,000 for taking the full deduction and $100,000 for taking no deduction.
• If your spouse doesn’t have a retirement plan at work, and you file a joint tax return, the spouse can deduct his or her full $2,000 contribution until your joint income reaches $ 150,000. After that, the deduction is prorated until your joint income is $160,000, at which time you can’t deduct the IRA contribution.
• Non-income earning spouses can also open IRAs, and the annual contribution for a married couple filing jointly is $4,000 or 100% of earned income, whichever is less, with a $2,000 maximum contribution for each spouse. Funds generally can’t be taken from a traditional IRA before age 591⁄2 without paying a penalty. If you take money out, taxes and a 10% penalty are imposed on the taxable portion of the distribution.

You can make some withdrawals without paying a penalty. Money can be taken penalty-free if you use it for a first-time home purchase or for higher education fees. You can also withdraw penalty-free in the event of death or disability, or if you incur some types of medical expenses.
After you turn age 701⁄2, you are required to take money from your traditional IRA account, either in the form of a lumpsum payout or a little at a time; withdrawing a little at a time allows you to extend the benefit of the tax shelter.