Compensation for IRA Eligibility & Rental Income
To contribute to an Individual Retirement Account (IRA), the Internal Revenue Service requires you to have earned what it calls "compensation income" over the course of the year. The IRS is quite specific about defining compensation income, and rental income is not on the agency's list of acceptable cash flows.
Other People Are Reading
-
Compensation Income
-
The IRS defines compensation income as money you earn from a job, whether it's wages, salary, commissions or tips. It is also money you earn from self-employment, either as an independent contractor or the proprietor of a small business. Military differential pay and non-taxable combat pay count as compensation income, as does alimony. In its Publication 590, the IRS specifically lists sources that are not compensation income. The list includes money earned from property, as well as dividend and pension income.
IRA Contribution Limit
-
As of 2011, your maximum IRA contribution is the lesser of your compensation income and $5,000 if you are under 50 years old, or $6,000 if you are 50 years or older. As an example, consider Sue, 40, whose income from rental properties totaled $50,000 in 2011. During the course of the year, she also received $4,000 in alimony. Even though her total income easily exceeds the maximum IRA contribution limit, Sue's IRA contribution cannot exceed $4,000, the sum of her compensation income.
-
Significance
-
IRAs offer a significant tax shelter. Investors generally get a tax break on either contributions or withdrawals, and asset earnings are not taxed while they are in the account. The goal of these tax savings was to encourage working Americans to contribute earned income to a retirement nest egg, rather than provide a tax shelter for inherited or investment wealth. IRS rules lump rental earnings with other investment income when determining what constitutes compensation income.
Considerations
-
Having rental income does not exclude you from making an IRA contribution. Rather, you cannot include rental income when totaling your compensation income. For example, Jim, 62, is retired and lives primarily off of his rental properties. However, in 2011, he took a part-time job and earned $6,000. Jim has until his filing deadline, plus extensions, to make the maximum $6,000 IRA contribution in 2012 and apply it to 2011, even if he has no job in 2012. The IRS cannot track where a contribution comes from. The agency only requires that a contribution not exceed your compensation income for the year to which you apply it.
-
