Ask Carrie by Carrie Schwab Pomerantz

Dear Carrie: How much can a person who is 55 invest yearly in an IRA that is tax deductible? — A Reader

Dear Reader: It seems like such a simple question. But the answer is anything but, thanks to the complex web of rules and regulations surrounding the whole range of retirement investment options. Still, it's an important question because the need to build capital for retirement is the most critical financial challenge for most Americans. And despite its complexity, the tax code can help you. You owe it to yourself to take full advantage of that fact to help you become financially secure when you leave the work force.

Here's how IRA deductibility works in a nutshell: Anyone with earned income (wages or self-employment income) can open an IRA and contribute to it annually — up to the amount of income and the maximums listed below. But whether those contributions are deductible depends on two things: whether your company (or your spouse's company) offers another kind of pension plan and your income level. There are essentially three scenarios:

— If you (and your spouse, if you are married) are not active participants in a qualified workplace retirement plan, like a 410(k) or 403(b) plan or a traditional defined benefit plan, then you can deduct annual contributions of up to $6,000 to an IRA. Note: For people under 50, the maximum contribution is $5,000; for those 50 and over, the IRS permits an annual "catch-up" contribution of an additional $1,000 to bring your maximum tax-deductible contribution to $6,000.

— If you are an active participant in a company-sponsored plan, then an IRA is deductible only if your income is below certain thresholds: $55,000 to $65,000 for single taxpayers; $89,000 to $109,000 for married filing jointly; and $0 to $10,000 if you're married filing separately. Deductibility is phased out between those numbers.

If you are not an active participant in a plan but your spouse is, you can contribute and deduct the full $6,000 assuming your income is below $166,000. Deductibility gets phased out between $166,000 and $176,000.

— And finally, even if you (or your spouse) don't have any earned income, you may be able to contribute to what is known as a spousal IRA — provided your spouse has sufficient earned income. Contributions limits are like any other IRA ($5,000 for those under 50, and $6,000 for those 50 and older).

By the way, all these numbers are for 2009 and will likely be adjusted in 2010, depending on the annual inflation rate. Another nuance: You may have noticed the phrase "active participant." Obviously, if you are contributing to your 401(k) plan, you're an "active participant." But even if you don't participate through payroll deduction, you might be an active participant according to IRS rules.

If you're unsure, check with your human resources department. If your company has a traditional pension plan, you are probably considered an active participant as long as you're eligible, even if no contributions are being made at the moment. Again, check with HR.

So, the first step is to determine your status. Step two is to put as much as you can into the right vehicle. A 401(k) plan allows much higher contributions than an IRA, up to $16,500 each year plus an additional $5,500 for those over 50. Since contributions are made with pretax dollars, it's essentially the same as tax deductibility for an IRA contribution. It's best to contribute the max, but at the very least, contribute enough to take full advantage of any company match. If you don't have a 401(k) (and neither does your spouse), contribute the maximum to an IRA including the catch-up contribution. That will shave $6,000 off your income right there. If your tax bracket is, say, 35 percent, you'll reduce your taxes by $2,100. You have until April 15 of the next year to make the contribution (i.e., 2009 contributions must be made by April 15, 2010).

And if you don't qualify for a deductible IRA contribution, you can still make a nondeductible contribution. In that case, though, it may make more sense to instead invest that money in a traditional taxable brokerage account. You give up tax-deferred growth, but in return you'll be able to take advantage of long-term capital gain rates — withdrawals from traditional IRAs are taxed at ordinary income rates. In addition, taxable accounts are more flexible, with no restrictions about early withdrawals or minimum distributions.

Alternatively, if you're not eligible for a traditional IRA deduction, you might consider making a contribution to a Roth IRA. Contributions to a Roth IRA are never tax deductible, but qualified withdrawals of earnings are tax-free (contributions can be withdrawn tax-free at any time). For 2009, you can contribute the maximum to a Roth IRA if your adjusted gross income (AGI) is at or below $105,000 for single filers and $166,000 for married filing jointly. You can make a partial contribution if your AGI is between $105,000 and $120,000 for singles and $166,000 and $176,000 for married filing jointly.

At age 55, you probably have five to 10 years to go before you retire, and now may be a great time to sit down with a financial adviser who can help you evaluate your needs. But at the very least, take full advantage of the tax code to sock away as much money as possible. Thanks for the question, and good luck.

Carrie Schwab-Pomerantz, CERTIFIED FINANCIAL PLANNER (tm) is president of the Charles Schwab Foundation and author of "It Pays to Talk." You can e-mail Carrie at askcarrie@schwab.com. This column is no substitute for an individualized recommendation, tax or personalized investment advice. To find out more about Carrie Schwab-Pomerantz and read features by other Creators Syndicate writers and cartoonists, visit the Creators Syndicate website at www.creators.com.

COPYRIGHT 2009 CHARLES SCHWAB & CO. INC. MEMBER SIPC

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