Rules for IRAs & Pensions
Individual retirement accounts (IRAs) and pension plans vary widely in their structure and limits. The type of plan generally determines the rules and limits that will apply, but contribution caps and other rules can be influenced by factors such as income or job classification.
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Traditional IRA
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A traditional IRA is a pretax IRA. You will receive a tax deduction for the amount contributed up to $5,000, unless you are age 50 or older, in which case the limit is $6,000. (Limits quoted here are for 2009; future years will be indexed to inflation.) The amount that is tax deductible is reduced if you are an active participant in a 401k plan. However, taxes must be paid on both contributions and earnings when distributions are paid from the account. There is a 10 percent penalty for withdrawals made before age 59 1/2, and mandatory withdrawals must begin no later than age 70 1/2. You must have earned income to contribute to an IRA.
Roth IRA
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A Roth IRA is an aftertax IRA. You will contribute aftertax dollars to the account, with the same limits as a traditional IRA; but if you meet certain conditions, all of the funds, including earnings, can be withdrawn tax-free. There is no requirement to begin distributions at 70 1/2. However, there are income limits that don't exist in a traditional IRA. If you make more than $120,000, in 2009, you cannot contribute. If you make between $105,000 and $120,000, you can contribute up to $6,000. (There is IRS tax guidance on limits in this range.) If you make less than $105,000, you can contribute up to $5,000, if you're under age 50, and $6,000 if you're over.
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SIMPLE IRA
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SIMPLE plans are for small businesses with 100 or fewer employees. Under a SIMPLE plan, the employer establishes IRAs for eligible employees, who can then contribute a portion of their income to their individual IRA accounts. The contribution limit for employees age 49 or younger is $11,500 in 2009. For those age 50 and older, it is $14,000. In addition, the employer may be required to match contributions up to a certain percentage of pay.
Simplified Employee Pension
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Simplified Employee Pensions (SEPs) are also made up solely of employer contributions; employees may not contribute. However, SEPs are still individually held accounts and they are considered defined contribution plans, so the total contribution limit of $49,000, in 2009, applies.
Defined Benefit Pension Plan
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Defined benefit plans have much higher limits than defined contribution plans. Almost exclusively, contributions into the plan come from the employer, who agrees to provide a retirement pension that is defined by the terms of the plan. For that reason, employers retain control of the funds, unlike with a 401k. However, instead of $49,000, you may accrue contribution benefits of up to $195,000 in 2009.
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