Take a Tax Break with an IRA

Want to enjoy the benefits of a bigger tax refund next year? Find out how IRAs can help you at tax time.

By Navy Federal April 13, 2015

Great news—you're getting a tax refund! By now, everyone from your dad to your grandmother has been urging you to use that refund to start saving for retirement. For most of us who are decades away from retiring, it's pretty hard to make saving for the golden years a priority. Most of us want to use that money to buy a new TV or other electronic toys. But, what if there was a way to save for later and get a benefit now? By contributing to certain Individual Retirement Arrangements (IRAs), you can build your savings for a better retirement, save at tax time and put more money in your pocket!

Two of the most common types of IRAs are Traditional and Roth. Each type has different eligibility requirements and its own unique blend of tax advantages. You may be able to take a tax deduction for Traditional IRA contributions or withdraw the earnings on a Roth IRA tax-free.

Traditional IRAs

Traditional IRAs are potentially tax-deferred retirement plans, which means you don't pay taxes on your contributions until you withdraw the funds. Contributions can be made as long as you have earned income and you're below the age of 70½. The contributions you make to a Traditional IRA can reduce how much taxable income you claim and could result in a higher refund for you next year! You should note, however, that the Internal Revenue Service (IRS) does limit how much funds contributed to an IRA can be claimed each tax year, and this amount is always subject to change. To make sure you get the most of this tax benefit, contribute what you can to your IRA, no matter how little. You'll love the tax break now, and your future self will thank you for the money you've saved for later.

Roth IRAs

In contrast to Traditional IRAs, with a Roth IRA, you pay taxes now and withdraw the funds upon retirement tax-free. Contributions can be made after the age of 70½ without any required minimum distributions, as long as you have earned income. Although you won't get a potential tax write-off with a Roth IRA, you'll get a valuable tax break in the future. Since you contribute after-tax money into this account, you can withdraw your contributions tax-free, after a five-tax-year period, at retirement or beforehand if you make a qualified withdrawal. The good news for you younger savers is that a qualified withdrawal can be funds used toward buying, building or rebuilding a first home!

Here are the requirements for a qualified withdrawal:

  • Made on or after the date you reach age 59½,
  • Made because you're disabled,
  • Made to a beneficiary or to your estate after your death, or
  • Used to pay for qualified first-time homebuyer expenses (up to a $10,000 lifetime limit)

However, the IRA contributions you withdraw aren't just tax-free—Uncle Sam doesn't lay a finger on any of the account's earnings, either. It may not be the larger refund check you want now, but it does make for a pretty sweet deal when you're looking to buy your first home or later on when you're talking about decades of compounding interest.

Things to consider:

Being able to: Traditional Roth
Get a potential tax write-off  
Contribute to your IRA without income restrictions  
Earn dividends tax-free  
Contribute to your IRA without age restrictions, as long as you have earned income*  

*Earned income includes wages, salaries, tips, professional fees, bonuses, commissions, self-employment income, alimony, separate maintenance and other amounts that appear in Box 1 on your W-2.

The bottom line:

We're always going to have to pay taxes, but with an IRA, you can ease your tax burden and set yourself up for retirement in the process. Each IRA has its own unique tax advantages, and there's no right or wrong answer. The key is finding the best option for you.

Still have questions? Navy Federal can help. Contact a financial advisor at 1-877-221-8108.

This article is intended to provide general information and shouldn't be considered legal, tax or financial advice. It's always a good idea to consult a tax or financial advisor for specific information on how certain laws apply to your situation and about your individual financial situation.