Please ensure Javascript is enabled for purposes of website accessibility

4 IRA Rules That Might Surprise You

By Maurie Backman – Jun 10, 2017 at 9:23AM

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More

The rules surrounding IRAs are somewhat complex. Here are a few you may not have heard of.

While not all workers have access to a 401(k), anyone who earns income is eligible to open an IRA. Whether you opt for a traditional IRA or the Roth version, reading up on the rules involved can help you make the most of your account. Here are a few lesser-known IRA features you may not know about.

1. You have until the tax filing deadline each year to contribute for the previous year

With a 401(k) plan, your contributions are deducted directly from your paychecks, and you have from the start of each calendar year until the end of that year to fund your account. IRAs, however, work differently. With an IRA, you actually have until the tax filing deadline to make contributions for the previous year. So if, for example, you neglect to fund your 2017 IRA and realize your mistake in early 2018, you have until mid-April to get that money into your account.

Older couple putting money into a piggy bank


2. You can save in a Roth IRA, even if your earnings exceed the limits for eligibility

Roth IRAs offer certain key benefits that traditional IRAs do not. The problem, however, is that not everyone is eligible to contribute to a Roth. For 2017, single tax filers earning $133,000 or more, and joint filers earning $196,000 or more, are not allowed to contribute to a Roth IRA directly. But if your earnings exceed these limits, you should know that you can still fund a Roth IRA, albeit a bit circuitously.

Once you've funded a traditional IRA, you have the option to convert it to a Roth account after the fact. Just know that if you go this route, you'll be liable for taxes on the amount you move over immediately. So if, for example, you convert $5,000 of traditional IRA contributions to a Roth account this year, you'll owe taxes on that $5,000 when you file your 2017 return.

3. There are ways to avoid penalties on early traditional IRA withdrawals

In exchange for the tax benefits offered by traditional IRAs -- namely, tax-deductible contributions and tax-deferred growth -- you must pledge to keep your money in your account until you reach age 59 1/2. Otherwise, you'll face an early withdrawal penalty equal to 10% of the amount you remove. Though this rule is designed to discourage premature IRA withdrawals, there are a few exceptions where you can get at your money sooner without being penalized.

The first applies to buying a first-time home. You're allowed to withdraw up to $10,000 penalty-free to put toward the purchase of your first property. If your spouse has an IRA, he or she can also take a $10,000 penalty-free withdrawal for a total of $20,000.

You can also take an early IRA withdrawal without penalty to pay for qualified higher education costs for yourself, a spouse, or a dependent. Additionally, you're allowed penalty-free withdrawals at any age to pay for health insurance premiums during periods of unemployment or to cover medical expenses that exceed 10% of your adjusted gross income. Finally, you can access your money penalty-free if you become permanently disabled.

4. You can withdraw principal contributions from a Roth IRA at any time without penalty

Because Roth IRAs are funded with after-tax dollars, they offer a lot more flexibility than traditional IRAs when it comes to withdrawals. In fact, if you have a Roth, you're allowed to withdraw your money at any time, and for any reason, without penalty, provided you're only touching the principal contribution portion of your account, and not the earnings portion.

That said, don't forget that any time you remove money from your IRA, that's cash that won't be available for you in retirement. So while it might seem like a good idea to take a $10,000 withdrawal to pay for some home repairs rather than charge that sort of expense on a credit card, just keep in mind that you may come to miss that money when you're older.

Just as importantly, always remember that when you remove money from an IRA prematurely, you're not just losing out on that principal amount, but also on whatever gains it could've achieved. Say your Roth IRA typically gives you a 7% return each year and that you take a $10,000 withdrawal at age 45. By age 65, you'll actually have $39,000 less in your account, because you'll have missed out on 20 years of growth.

Funding an IRA is one of the most efficient ways to save for retirement. The more you study up on IRA rules, the better positioned you'll be to use your account wisely.

The Motley Fool has a disclosure policy.

Premium Investing Services

Invest better with The Motley Fool. Get stock recommendations, portfolio guidance, and more from The Motley Fool's premium services.