Pretax IRA Contributions Could Trim Your Tax Bill or Boost Your Refund
Pretax IRA contributions refer to the money you contribute to an IRA account before taxes are taken out of your income. This means that the contribution amount is deducted from your taxable income, which can potentially lower your tax bill or increase your tax refund.
For instance, if your taxable income is $50,000 and you have $5,000 pretax IRA contributions, your taxable income would be decreased to $45,000. This could result in a lower tax bill since your tax rate is based on your taxable income. If your tax rate is 20%, the $5,000 contribution could save you $1,000 in taxes.
If you’ve already filed your tax return and are expecting a refund, pretax IRA contributions can increase your refund. The reason is that your taxable income is reduced, which means you’ll owe less in taxes. If you’ve already had taxes withheld from your paycheck, contributing to a pretax IRA could increase your refund by reducing the amount of taxes owed, according to IRS.
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How to know if you qualify for the tax break regarding pretax IRA contributions
To qualify for the tax break, investors need to know the IRA deductibility rules, which can be confusing. Eligibility for the tax break depends on three factors:
- filing status
- modified adjusted gross income
- workplace retirement plan participation
If both spouses don’t participate in a workplace retirement plan, married couples filing jointly can both deduct their contributions.
In 2022, the maximum amount of money that one can contribute to an IRA was $6,000, with an additional allowance of $1,000 for those aged 50 or above. The amount of IRA contributions that can be deducted from taxes varies depending on the individual’s filing status and income, CNBC reported.
However, just because you qualify for a deduction doesn’t mean you should make the pretax IRA contributions. Before making the deposit, investors need to weigh their investment goals, along with their current tax brackets versus their expected tax brackets in retirement. It’s essential to consider other buckets of retirement savings and the tax consequences upon withdrawal, such as capital gains, regular income taxes, or tax-free income.
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