Contributing to an IRA in Retirement

A reader writes in, asking:

“I retired in 2010 and my wife retired earlier this year. Because of my pension and my wife’s Social Security, our expenses are taken care of, for now. (We’re still in good health, knock on wood!) That could change down the road as medical expenses increase.

But my question is about IRAs. Can we contribute to an IRA in retirement? What about a Roth IRA? And what would be the basis for deciding whether or not to do so?”

Must Have “Compensation” Income

In a given year (assuming you’re under the income limit for Roth IRA contributions), the contribution limit for a Roth or traditional IRA is the lesser of:

1. $5,000 ($6,000 if age 50 or over), or
2. Your compensation for the year.

For these purposes, compensation includes wages and salaries (including commissions), self-employment income, and alimony. Compensation does not include interest, dividends, pension income, annuity income, rental income, deferred compensation, or amounts you can exclude from income (with the exception of nontaxable combat pay).

In other words, most retirees will likely need some sort of part-time work in order to be able to contribute to an IRA.

Age Limits for IRA Contributions

Assuming that you meet the income requirement, there’s still one catch for traditional IRA contributions: You cannot make them in the year in which you reach age 70½ or in later years. Roth IRA contributions, however, do not have a maximum age limit.

Would Traditional IRA Contributions Be Deductible?

The rules for traditional IRA contributions are the same after retirement as before retirement. That is, the contributions will be deductible if neither you nor your spouse is covered by an employer retirement plan. If either of you is covered by such a plan (as a result of the part time job that you’ve taken on to satisfy the “compensation income” requirement, for instance), then the deductibility of traditional IRA contributions will depend on your modified adjusted gross income being below certain limits.

Note: Receiving benefits from a plan with a former employer does not count as being covered by that plan.

Which Type of IRA is Better in Retirement?

Assuming you would qualify to make deductible contributions to a traditional IRA, the question of Roth vs. traditional is primarily about two factors:

1. How does your current tax bracket compare to the tax bracket you’ll be in when you start taking distributions from the account? If you expect to be in a higher tax bracket when you take distributions, a Roth is preferable. (Remember here that you may have an unusually high marginal tax rate once you start collecting Social Security due to the unique way in which Social Security benefits are taxed.)
2. Roth IRAs are not subject to required minimum distribution rules, whereas traditional IRAs are.

Important note: If you think it’s likely that this money will eventually be left to your children, the question becomes how your current tax bracket compares to the tax bracket your heirs will be in when they take the money out. And it’s important to know that, because of the rules for inherited IRAs, they’ll have to start taking the money out right away, during their working years.

If you would not qualify for deductible traditional IRA contributions, that’s probably because you have a 401(k) or other similar retirement plan at your part-time job. As always, getting any available employer match should be priority #1 in such cases. After getting the maximum match, the Roth-vs-401(k) question is similar to the Roth-vs-traditional analysis above.