Do Roth IRA Earnings Count As Income?

Roth IRA earnings generally don't count as taxable income.

Earnings in a Roth IRA don't count as income while they remain in your Roth plan, or if they are distributed to you after age 59½ from a Roth IRA that has been open for more than five years, according to IRS Publication 590. Your original contributions to your Roth IRA are never taxed at withdrawal because you paid income tax on the money before you put it into the Roth account.

Early Withdrawal

Roth earnings are taxed as income if withdrawn before age 59½ or if they come from a Roth IRA account open for less than five years, according to the IRS. But the earnings may escape taxation if they are paid early to you because you have become disabled or if they are paid early to your heirs after your death. You also can withdraw early up to $10,000 without penalty or tax to buy your first house. None of these exceptions apply if the Roth account was open for less than five years.

Order Important

Taxation of Roth IRA early withdrawals is affected by IRS ordering rules for early distributions. Any early withdrawal is first drawn against your original contributions, then against conversion and rollover contributions from traditional IRAs, and finally against Roth IRA earnings.

What's Taxed

In an early withdrawal, funds from your original Roth contributions aren't subject to tax or penalties. Funds from conversions and rollovers may be partially taxable, while funds from Roth earnings will be taxed as income. The IRS.gov website provides a 16-step formula for figuring the taxable portion of early withdrawals from a Roth IRA.

Income to Heirs

If you die with a Roth IRA account that was open for less than five years, the earnings from that Roth will count as taxable income for your heirs, according to the IRS. The money in the Roth account will be divided among your heirs according to the terms of your will. Each heir will get a proportional share of nontaxable contributions and taxable earnings.

Roth Losses

If your Roth IRA investment goes sour and you post losses rather than earnings, you can recognize the investment loss on your income tax return, says the IRS. To claim that loss on your taxes, you must close out your Roth account. If the amount of your distribution is less then the amount you originally contributed, you can claim the difference as an investment loss.

References

• IRS.gov: Publication 590, Individual Retirement Arrangements