Do You Qualify for an IRA Tax Deduction in 2018?

Note: This article is about the 2018 IRA deduction income limits, which affect the tax return you'll file in 2019. If you're looking for the 2017 IRA income limits, which affect the deduction you may be able to take on the tax return you file in 2018, you can find them here.

Contributions to an IRA may be eligible for a tax deduction, up to the annual contribution limit, which is $5,500 for the 2018 tax year or $6,500 if you're 50 or older. Even better, this is an "above-the-line" deduction, meaning that you can take advantage even if you don't itemize. And since all of the tax reform proposals we've seen so far preserve the tax benefits of retirement savings, it doesn't look like the IRA deduction is going anywhere.

Eligibility for the IRA tax deduction depends on a few factors, such as the type of IRA you're contributing to, your adjusted gross income (AGI), and if you're eligible to participate in your employer's retirement plan.

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The basic requirements for the IRA tax deduction

First of all, to be eligible for the IRA deduction, you must contribute to a traditional IRA. Traditional IRAs are tax-deferred retirement accounts, meaning that your contributions might be tax-deductible now, but your eventual withdrawals will count as taxable income.

Roth IRAs have several advantages, but an immediate tax deduction isn't one of them. Roth IRA contributions do not qualify for the IRA deduction, but qualified withdrawals will be 100% tax-free.

In addition, you need to be eligible to contribute to an IRA at all, which means that you have earned income, which includes wages, salaries, tips, bonuses, etc. In other words, if all of your income comes from investments or from a business you don't have an active role in, it doesn't count for IRA eligibility purposes.

Finally, your contributions must be made in a timely manner. For IRA purposes, this means that you can contribute during the calendar year itself, or during the next calendar year before the tax deadline passes. In 2018, this means your contributions must be made between Jan. 1, 2018 and April 15, 2019.

Income limitations: Are you eligible to participate in an employer's retirement plan?

For some people, the ability to take the IRA deduction is income-restricted. This depends on how much you earn and whether you or your spouse, if applicable, can participate in an employer's retirement plan.

First, the easy part. If you're not married and are not eligible to participate in a retirement plan at work, you can take advantage of the IRA deduction regardless of your income, provided you meet the requirements outlined in the previous section.

If you do have a retirement plan at work, such as a 401(k), 403(b), pension plan, etc., your ability to take the IRA deduction is income-restricted. Specifically, here's a guide of the AGI limits for your tax filing status.

Data source: IRS.

Here's how to interpret this table. If your AGI is below the "full contribution limit" threshold for your filing status, you can deduct 100% of your traditional IRA contributions up to the 2018 annual limit that applies to you. If your AGI is between the full contribution limit and the partial contribution phaseout, you can deduct some traditional IRA contributions but less than the annual contribution limit. Finally, if your AGI is higher than the phase-out limit, you cannot deduct any traditional IRA contributions in 2018.

The final situation is if you are not covered by an employer's retirement plan but you're married and your spouse is covered. In this case, your deduction is income-limited but with more generous AGI thresholds:

Data source: IRS.

What if you don't qualify for the IRA deduction?

To be clear, if you don't qualify for the IRA deduction, you can still contribute to a traditional IRA. Nondeductible IRA contributions are treated differently upon withdrawal, but you still get the benefit of tax-deferred compounding. In other words, you won't have to pay capital gains or dividend taxes each year while your money is invested.

Furthermore, you may still be able to take advantage of a Roth IRA and its long-term tax benefits. Even if you don't qualify with the Roth IRA income limits, there is a "backdoor method" of contributing to a Roth IRA that you can use to take advantage of the benefits of this account.

Finally, it's worth mentioning that if you don't qualify for a traditional IRA deduction, it's most likely because you are eligible to participate in a retirement plan at work, such as a 401(k). So, while there are certainly some benefits to investing through an IRA as opposed to a 401(k) or other employer-sponsored plan, the logical alternative if you don't qualify for an IRA tax deduction is to use that money to increase your contributions to your employer's retirement plan.